Question

Williams Company is evaluating a project requiring a capital expenditure of $480,000. The project has an estimated life of 4 years and salvage value at the end of years 4 is $20,000. The estimated net income and net cash flow from the project are as follows:

Year Net Income Net Cash Flow

1 $90,000 $210,000

2 $80,000 $200,000

3 $60,000 $160,000

4 $30,000 $150,000

$260,000 $720,000

The companys minimum desired rate of return(hurdle rate) for the net present value analysis is 15%.

Determine (a) the accounting rate of return on investment, and (b) the net present value. Use the following factors for years 1 through 4 respectively: .870, .756, .658, .572.

4

Answer 1

Ans- The accounting rate of return = Average accounting profit/ Initial investment

Depreciation =Book Value of asset-salvage value/ Estimated useful life

=$480,000-$20,000/4 years

=$460,000/4 years

=$115,000

Average accounting profit= Net Income - Depreciation

=$260,000-$115,000

=$145,000

Average rate of return= $145,000/ $480,000

=30.21%

The average rate of return on investment using straight line depreciation is 30.21%.

Ans-b- The Net Present Value:-

Years	Cash flow	PV factor @15%	Present Value
1	$210,000	0.870	$182,700
2	$200,000	0.756	$151,200
3	$160,000	0.658	$105,280
4	$150,000	0.572	$85,800
	$720,000		$524,980

The net present value= present value of cash inflows- present value of cash outflows

=$524,980-$480,000

=$44,980

The net present value is $44,980

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