Question

Yankay Specialty Metals Corporation is reviewing an investment proposal. The initial cost as well as the estimate of the book value of the investment at the end of each year, the net after-tax cash flows for each year, and the net income for each year are presented in the following schedule. The salvage value of the investment at the end of each year is equal to its book value. There would be no salvage value at the end of the investment’s life.

Year	Initial Cost and Book Value			Annual Net After-Tax Cash Flows			Annual Net Income
0	$	375,000
1		250,000		$	166,000		$	41,000
2		150,000			143,000			43,000
3		75,000			120,000			45,000
4		25,000			97,000			47,000
5		0			74,000			49,000

Management uses a 16 percent after-tax target rate of return for new investment proposals.

  

Use Appendix A for your reference. (Use appropriate factor(s) from the tables provided.)

Required:

1.	Compute the project’s payback period. Assume that the cash flows in years 1 through 5 occur uniformly throughout each year. (Round your answer to 2 decimal places.) Payback Period Years

3.	Compute the proposal’s net present value.
	Net Present Value =

Answer 1

Solution 1:

Computation of cumulative cash flows
Year	Cash Flows	Cumulative cash flows
1	$166,000.00	$166,000.00
2	$143,000.00	$309,000.00
3	$120,000.00	$429,000.00
4	$97,000.00	$526,000.00
5	$74,000.00	$600,000.00

Payback period = 2 years + ($375,000 - $309,000) / $120,000 = 2.55 years

Solution 3:

Computation of NPV
Particulars	Amount	Period	PV Factor	Present Value
Cash Outflows:
Initial investment	$375,000.00	0	1	$375,000
Present Value of Cash Outflows (A)				$375,000
Cash Inflows:
Year 1	$166,000.00	1	0.86200	$143,092
Year 2	$143,000.00	2	0.74300	$106,249
Year 3	$120,000.00	3	0.64100	$76,920
Year 4	$97,000.00	4	0.55200	$53,544
Year 5	$74,000.00	5	0.47600	$35,224
Present Value of Cash Inflows (B)				$415,029
Net Present Value (B-A)				$40,029