Question

Alpha & Omega wants to invest in a new computer system, and management has narrowed the choice to Systems A and B. System A requires an up-front cost of $100,000, after which it generates positive after-tax cash flows of $70,000 at the end of each of the next 2 years. The system could be replaced every 2 years, and the cash inflows and outflows would remain the same. System B also requires an up-front cost of $100,000, after which it would generate positive after-tax cash flows of $48,000 at the end of each of the next 3 years. System B can be replaced every 3 years, but each time the system is replaced, both the cash outflows and cash inflows would increase by 10%. The company needs a computer system for 6 years, after which the current owners plan to retire and liquidate the firm. The company's cost of capital is 14%. What is the NPV (on a 6-year extended basis) of System A?

what is the NPV (on a 6-year extended basis) of System B?

what is the equivalent annual annuity (EAA) for System A?

Answer 1

	System A	System B
NPV	39124.79	19930.94
EAA	$10,061.23	$5,125.39

Workings

Year	System A			System B
	Purchase cost	Cash flows	Net CF	Purchase cost	Cash flows	Net CF
0	-100000		-100000	-100000		-100000
1		70000	70000		48000	48000
2	-110000	70000	-40000		48000	48000
3		77000	77000	-110000	48000	-62000
4	-121000	77000	-44000		52800	52800
5		84700	84700		52800	52800
6		84700	84700		52800	52800

AutoSave on 2 H Book1 - Excel Sign in - 0 x Comments File Home Insert Draw Page Layout Formulas Data Review View Help Tell me what you want to do Share - 14 % Insert - Delete - Format Paste Cell Styles Sort & Find & Filter Select Editing Cells Calibri - 11AA === en General A = = = = = 0/ 0 00 Conditional Format as BIU - A - E 3 $ -% 48- Formatting - Table Clipboard Alignment Number Styles D1 - for И А в F G H 1 Year System A System B 2 Purchase cost Cash flows Net CF Purchase cost Cash flows Net CF 30 =-100000 =C3+B3 - 100000 =F3+3 4 1 = 70000 =C4+B4 48000 =F4+E4 5 2 =-100000*110% = 70000 =C5+B5 =F4 =F5+E5 =C5*110% =C6+B6 =E3*110% =F5 =F6+E6 4 =B5*110% =C6 =C7+B7 =F6*110% =F7+E7 =C7*110% =C8+B8 =F7 =F8+E8 =C8 =C9+B9 =F8 =F9+E9 System A System B NPV =NPV(14%,D4:09)+D3 =NPV(14%,64:G9)+G3 EAA =PMT(14%,6,-D11) EPMT(14%,6,-E11)