Question

Emporia Mills is evaluating two alternative heating systems. Costs and projected energy savings are given in the following table. The firm uses 11.5 percent to discount such project cash flows. Which system should be chosen?

Year	System 100	System 200
0	$(1,750,000)	$(1,735,000)
1	$275,223	$750,000
2	$512,445	$612,500
3	$648,997	$550,112
4	$875,000	$384,226

Answer 1

System 100:

Present value of inflows=cash inflow*Present value of discounting factor(rate%,time period)

=275223/1.115+512445/1.115^2+648997/1.115^3+875000/1.115^4

=$1,693,332.59

NPV=Present value of inflows-Present value of outflows

=$1,693,332.59-$1,750,000

=($56,667.41)(Approx)(Negative).

System 200:

Present value of inflows=cash inflow*Present value of discounting factor(rate%,time period)

=750,000/1.115+612500/1.115^2+550112/1.115^3+384226/1.115^4

=$1,810,758.21

NPV=Present value of inflows-Present value of outflows

=$1,810,758.21-$1,735,000

=$75758.21(Approx).

Hence System 200 must be selected having positive and higher NPV.