Question

Merrill Corp. has the following information available about a potential capital investment: Initial investment Annual net income Expected life Salvage value Merrill's cost of capital $1,300,000 $ 130,000 8 years $ 140,000 10% Assume straight line depreciation method is used. Required: 1. Calculate the project's net present value. (Future Value of $1, Present Value of $1, Future Value Annuity of $1, Present Value Annuity of $1.) (Use appropriate factor(s) from the tables provided. Do not round intermediate calculations. Round the final answer to nearest whole dollar.) Net Present Value 2. Without making any calculations, determine whether the internal rate of return (IRR) is more or less than 10 percent. Less than 10 Percent Greater than 10 Percent 3. Calculate the net present value using a 13 percent discount rate. (Future Value of $1. Present Value of $1, Future Value Annuity of $1, Present Value Annuity of $1.) (Use appropriate factor(s) from the tables provided. Do not round intermediate calculations. Round the final answer to nearest whole dollar.) Net Present Value

Answer 1

Annual net cash flow = annual net income + annual depreciation

Depreciation per annum (by straight line method) = (initial cost - salvage value)/useful life

= ($1300000 - $140000)/8 = $145000

Therefore,

Annual net cash flow = $130000 + $145000 = $275000

(1)

Net present value = present value of annual net cash flow - initial investment

Present value of annual net cash flow = present value of annual $275000 + present value of salvage value $140000

= ($275000 x 5.33493) + ($140000 x 0.46651)

= $1,467,105.75 + $65,311.40

= $1,532,417.15

Where, PVAF(10%, 8) = 5.33493

PVF(10%, 8) = 0.46651

Therefore,

NPV = $1,532,417.15 - $1,300,000

= $232,417

therefore, NPV is $232,417

(2)

As the NPV is positive, Internal rate of return is greater than 10%

(3)

at 13% rate,

Present value of annual net cash flow = present value of annual $275000 + present value of salvage value $140000

= ($275000 x 4.79877) + ($140000 x 0.37616)

= $1,319,661.75 + $52,662.4

= $1,372,324.15

Where, PVAF(13%, 8) = 4.79877

PVF(13%, 8) = 0.37616

Therefore,

NPV = $1,372,324.15 - $1,300,000

= $72,324

therefore, NPV is $72,324