Question

Water World is considering purchasing a water park in Atlanta, Georgia, for $1,870,000. The new facility will generate annual net cash inflows of $480,000 for eight years. Engineers estimate that the facility will remain useful for eight years and have no residual value. The company uses straight-line depreciation, and its stockholders demand an annual return of 10% on investments of this nature. (Click the icon to view the Present Value of $1 table.) Click the icon to view Present Value of Ordinary Annuity of $1 table.) (Click the icon to view Future Value of $1 table.) (Click the icon to view Future Value of Ordinary Annuity of $1 table.) Read the requirements Requirement 1. Compute the payback, the ARR, the NPV, the IRR, and the profitability index of this investment. First, determine the formula and calculate payback. (Round your answer to one decimal place, X.X.) Amount invested 1 Expected annual net cash inflow = 1870000 480000 Payback 3.8 years Next, determine the formula and calculate the accounting rate of return (ARR). (Round the percentage to the nearest tenth percent, X.X%.) Average annual operating income Amount invested = ARR Calculate the net present value (NPV). (Enter any factor amounts to three decimal places, X.XXX.) Years Net Cash Inflow 480000 Annuity PV Factor (i=10%, n=8) 5.335 Present Value 2560800 1-8 0 Present value of annuity Investment

Answer 1

Payback Period Amount Invested $18,70,000.00 17 Expected annual net cash inflows $4,80,000.00 = Payback Period 3.9 Years Accounting rate of return Average annual operating income $2,46,250.00 Amount invested $18,70,000.00 ARR 13.2%

Year 1-8 Calculation of average annual operating income Expected net cash inflows Depreciation Average annual operating income $4,80,000.00 $2,33,750.00 $2,46,250.00

Net present Value Year Present value 1-8 0 Present value of annuity Investment Annuity factor Net cash Inflows (i=10%, n=8) $4,80,000.000 5.335 $18,70,000.000 1 Net present value of investment $25,60,800.000 -$18,70,000.000 $6,90,800.000

IRR Year OvaWNO Investment $18,70,000.00 $0.00 $0.00 $0.00 $0.00 $0.00 $0.00 $0.00 $0.00 Cash Inflows Net cash flows $0.00 $18,70,000.00 $4,80,000.00 $4,80,000.00 $4,80,000.00 $4,80,000.00 $4,80,000.00 $4,80,000.00 $4,80,000.00 $4,80,000.00 $4,80,000.00 $4,80,000.00 $4,80,000.00 $4,80,000.00 $4,80,000.00 $4,80,000.00 $4,80,000.00 $4,80,000.00 IRR 19%

А Year Cash Inflows 1 IRR 2 30 4 1 5 2 Investment -1870000 480000 480000 480000 480000 480000 480000 480000 480000 Net cash flows =B3+C3 =B4+C4 =B5+C5 =B6+C6 =B7+C7 =B8+C8 =B9+C9 =B10+C10 =B11+C11 =IRR(D3:D11) 8 5 96 10 7 12 IRR 13

Should the company invest Payback Period Life of project 3.9 Years 8 Years Yes, As Payback period is less than life of the project Accounting rate of return Required rate of return 13.20% 10% Yes, As the ARR is more than required rate of return NPV $6,90,800.00 Yes, As the NPV is positive IRR Required rate of return 19% 10% Yes, As the IRR is more than required rate of return The comapny should invest in the project

Profitability Index Present value of net cash Inflows $25,60,800.00 / / Initial Investment | = | Profitability Index $18,70,000.00 = 1.37