Question

At the end of 2020, Ivanhoe Company is conducting an impairment test and needs to develop a fair value estimate for machinery used in its manufacturing operations. Given the nature of Ivanhoe’s production process, the equipment is for special use. (No secondhand market values are available.) The equipment will be obsolete in 2 years, and Ivanhoe’s accountants have developed the following cash flow information for the equipment.

Year		Net Cash Flow Estimate				Probability Assessment
2021		$6,060				40%
		9,210				60%
2022		$(450	)			20%
		2,030				60%
		3,660				20%
		Scrap value
2022		$480				50%
		910				50%

Using expected cash flow and present value techniques, determine the fair value of the machinery at the end of 2020. Use a 6% discount rate. Assume all cash flows occur at the end of the year. (Round factor values to 5 decimal places, e.g. 1.25124 and final answer to 0 decimal places, e.g. 458,581.)

Fair value of the machinery at the end of 2020

Answer 1

Answer

Net cash flow estimate for 2021=$6060*40%+$9,210*60%

=$2424+$5,526

Net cash flow estimate for 2021=$7,950

Net cash flow estimate for 2022=-$450*20%+$2,030*60%+$3,600*20%

=-90+$1,218+$720

Net cash flow estimated for 2022=$1,848

Scrap value=$480*50%+$910*50%

=$240+$455

=$695

Total net cash flow estimate for 2022=$1,848+$695

=$2,543

6% Discount rate to calculate PV

Present value of cash flows=(7,950*.94340)+(2,543*0.88999)

=$7,500+2,857

Fair value of machinery at end of 2020=$10,357