Question

Problem 12-4A (Video) Jane's Auto Care is considering the purchase of a new tow truck. The garage doesn't currently have a tow truck, and the $59,960 price tag for a new truck would represent a major expenditure. Jane Austen, owner of the garage, has compiled the estimates shown below in trying to determine whether the tow truck should be purchased. Initial cost Estimated useful life Net annual cash flows from towing Overhaul costs (end of year 4) Salvage value $59,960 8 years $8,050 $5,990 $12,000 Jane's good friend, Rick Ryan, stopped by. He is trying to convince Jane that the tow truck will have other benefits that Jane hasn't even considered. First, he says, cars that need towing need to be fixed. Thus, when Jane tows them to her facility, her repair revenues will increase. Second, he notes that the tow truck could have a plow mounted on it, thus saving Jane the cost of plowing her parking lot. (Rick will give her a used plow blade for free if Jane will plow Rick's driveway.) Third, he notes that the truck will generate goodwill; people who are rescued by Jane's tow truck will feel grateful and might be more inclined to use her service station in the future or buy gas there. Fourth, the tow truck will have "Jane's Auto Care" on its doors, hood, and back tailgate-a form of free advertising wherever the tow truck goes. Rick estimates that, at a minimum, these benefits would be worth the following. Additional annual net cash flows from repair work Annual savings from plowing Additional annual net cash flows from customer "goodwill" Additional annual net cash flows resulting from free advertising $3,000 750 1,010 760 The company's cost of capital is 9%. Click here to view PV table. Calculate the net present value, ignoring the additional benefits described by Rick. (If the net present value is negative, use either a negative sign preceding the number e.g. -45 or parentheses e.g. (45). Round answer to o decimal places, e.g. 125. For calculation purposes, use 5 decimal places as displayed in the factor table provided.) Net present value Should the tow truck be purchased? The tow truck be purchased. LINK TO TEXT LINK TO TEXT VIDEO: SIMILAR PROBLEM

Answer 1

Solution 1:

Computation of NPV - Jane's Auto Care (Ignoring additional benefits)
Particulars	Amount	Period	PV Factor	Present Value
Cash Outflows:
Initial investment in Truck	$59,960	0	1	$59,960
Overhaul cost	$5,990	4	0.70843	$4,243
Present Value of Cash Outflows (A)				$64,203
Cash Inflows:
Annual cash inflows from Towing	$8,050	1-8	5.53482	$44,555
Salvage Value	$12,000	8	0.50187	$6,022
Present Value of Cash Inflows (B)				$50,578
Net Present Value (B-A)				-$13,626

As NPV is negative, therefore tow truck should not be purchased.

Solution 2:

Computation of NPV - Jane's Auto Care (Incorporating additional benefits)
Particulars	Amount	Period	PV Factor	Present Value
Cash Outflows:
Initial investment in Truck	$59,960	0	1	$59,960
Overhaul cost	$5,990	4	0.70843	$4,243
Present Value of Cash Outflows (A)				$64,203
Cash Inflows:
Annual cash inflows from Towing	$8,050	1-8	5.53482	$44,555
Additional annual net cash flows from repair work	$3,000	1-8	5.53482	$16,604
Annual savings from plowing	$750	1-8	5.53482	$4,151
Additional annual net cash flows from customer “goodwill”	$1,010	1-8	5.53482	$5,590
Additional annual net cash flows resulting from free advertising	$760	1-8	5.53482	$4,206
Salvage Value	$12,000	8	0.50187	$6,022
Present Value of Cash Inflows (B)				$81,130
Net Present Value (B-A)				$16,926

As NPV is positive, therefore tow truck should be purchased.

Solution 3:

Required present value of intangible benefits in order to accept the project = $13,626