Question

BAK Corp. is considering purchasing one of two new diagnostic machines. Either machine would make it possible for the company to bid on jobs that it currently isn't equipped to do. Estimates regarding each machine are provided below. Machine B $181,000 8 years Machine A Original cost $77,700 Estimated life 8 years Salvage value Estimated annual cash inflows $20,500 Estimated annual cash outflows $5,070 $40,400 $10,000 Click here to view PV table. Calculate the net present value and profitability index of each machine. Assume a 9% discount rate. (If the net present value is negative, use either a negative sign preceding the number eg -45 or parentheses eg (45). Round answer for present value to 0 decimal places, e.g. 125 and profitability index to 2 decimal places, e.g. 10.50. For calculation purposes, use 5 decimal places as displayed in the factor table provided.) Machine A Machine B Net present value Profitability index Which machine should be purchased? should be purchased.

Answer 1

	Machine A	Machine B
Net Present value	7702	-12741
Profitability index	1.10	0.93
Machine A should be purchased
Workings:
Machine A:
Estimated annual cash inflows	20500
Estimated annual cash outflows	5070
Net annual cash flows	15430
Net annual cash flows	15430
X PV factor	5.53482	=(1-(1.09)^-8)/0.09
Present value of Net annual cash flows	85402
Less: Investment cost	77700
Net Present value	7702
Present value of Net annual cash flows	85402
Divided by Investment cost	77700
Profitability index	1.10
Machine B:
Estimated annual cash inflows	40400
Estimated annual cash outflows	10000
Net annual cash flows	30400
Net annual cash flows	30400
X PV factor	5.53482
Present value of Net annual cash flows	168259
Less: Investment cost	181000
Net Present value	-12741
Present value of Net annual cash flows	168259
Divided by Investment cost	181000
Profitability index	0.93