Question

Drake Corporation is reviewing an investment proposal. The initial cost is $105,800. Estimates of the book value of the investment at the end of each year, the net cash flows for each year, and the net income for each year are presented in the schedule below. All cash flows are assumed to take place at the end of the year. The salvage value of the investment at the end of each year is assumed to equal its book value. There would be no salvage value at the end of the investment’s life.

Investment Proposal
Year		Book Value			Annual Cash Flows			Annual Net Income
1		$69,800			$46,000			$10,000
2		42,200			39,400			11,800
3		21,800			34,000			13,600
4		6,300			29,300			13,800
5		0			23,225			16,925

Drake Corporation uses an 11% target rate of return for new investment proposals.

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(a)

What is the cash payback period for this proposal? (Round answer to 2 decimal places, e.g. 10.50.)

Cash payback period

years

(b)

What is the annual rate of return for the investment? (Round answer to 2 decimal places, e.g. 10.50%.)

Annual rate of return for the investment

%

(c)

What is the net present value of the investment? (If the net present value is negative, use either a negative sign preceding the number e.g. -45 or parentheses eg (45). Round answer to 0 decimal places, e.g. 125. For calculation purposes, use 5 decimal places as displayed in the factor table provided.)

Net present value

$

Answer 1

A1)	Cash payback   period
	Year	Annual	Cumulative
		cash flow	cash flow
	0	-105,800	-105,800
	1	46,000	-59,800
	2	39,400	-20,400
	3	34,000	13,600
	4	29,300	42,900
	5	23,225	66,125
	in year 3 out of		34,000	only	20,400
	is required so		20,400	/	34,000
			0.6
	Cash payback period		2.6	years
A2)	Annual rate of return
	Average annual net income			/	average initial investment
	Year	Annual
		net income
	1	10,000
	2	11,800
	3	13,600
	4	13,800
	5	16,925
	total	66,125
	average net income
	66,125	/	5
	13225
	average initial investment=			105,800	/	2
				52900
	Annual rate of return		=	13225	/	52900
				25%
	Annual rate of return for   the investment				25%
A3)	Year	Annual	PV factor	Present
		cash flow	at 11%	value
	0	-105,800	1	-105800
	1	46,000	0.9009	41441
	2	39,400	0.81162	31978
	3	34,000	0.73119	24860
	4	29,300	0.65873	19301
	5	23,225	0.59345	13783
	Net present value			25563	answer