Question

Net Present Value Analysis Champion Company is considering a contract that would require an expansion of...

Net Present Value Analysis
Champion Company is considering a contract that would require an expansion of its food processing capabilities. The contract covers five years. To provide the required products, Champion would have to purchase additional equipment for $88,000. Champion estimates the contract will provide annual net cash inflows (before taxes) of $38,000. For tax purposes, the equipment will be depreciated as follows:

Year 1 $11,000
Year 2 22,000
Year 3 22,000
Year 4 22,000
Year 5 11,000


Although salvage value is ignored in the tax depreciation calculations, Champion estimates the equipment will be sold for $11,000 after five years.

Assuming a 35% income tax rate and a 10% hurdle rate, compute the net present value of this contract proposal. Using net present value analysis, should Champion accept the contract?

  
Round answers to the nearest whole number. Use rounded answers for subsequent calculations.
Use a negative sign with net present value to indicate a negative amount. Otherwise do not use negative signs with your answers.

After-Tax Cash Flow Analysis
Amount Present Value
After-tax cash inflows for 5 years Answer Answer
Tax savings from depreciation
Year 1 Answer Answer
Year 2 Answer Answer
Year 3 Answer Answer
Year 4 Answer Answer
Year 5 Answer Answer
After-tax equipment sale proceeds Answer Answer
Total present value of future cash flows Answer
Investment required in equipment Answer
Net positive (negative) present value Answer


Should Champion accept the contract?

Select the most appropriate answer below.

Champion should accept the contract because there is a negative net present value.

Champion should not accept the contract because there is a positive net present value.

Champion should accept the contract because there is a positive net present value.

Champion should not accept the contract because there is a negative net present value.

Homework Answers

Answer #1
Statement showing computation of NPV- Champion Company
Amount PVF @ 10% Present Value
(a) (b) (aXb)
After Tax Cash Inflows for 5 year ( 38000X0.65) $24,700.00 3.791 $93,637.70
Tax Savings From Depreciation
Year 1 $11,000.00 0.909 $9,999.00
Year 2 $22,000.00 0.826 $18,172.00
Year 3 $22,000.00 0.751 $16,522.00
Year 4 $22,000.00 0.683 $15,026.00
Year 5 $11,000.00 0.621 $6,831.00
Salvage Value of Equipment $11,000.00 0.621 $6,831.00
Present Value Of Cash InFlow $167,018.70
Less: Investment in Equipment $88,000.00
Net Present Value $79,018.70

Champion should accept the contract because there is a positive net present value.

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