Question

Anthony operates a part time auto repair service. He estimates that a new diagnostic computer system will result in increased cash inflows of $1,500 in Year 1, $2,100 in Year 2, and $3,200 in Year 3. If Anthony's required rate of return is 10%, then the most he would be willing to pay for the new diagnostic computer system would be (Ignore income taxes.):

Answer 1

Answer:

The most he would be willing to pay for the new diagnostic computer system would be $5,503.38

Explanation:

Hi, we need to solve this bringing to present value all the future cash flows, discounted at 10%. This is because we need to find the cost that will equal the present value of all the future and positive cash flows, therefore Anthony will obtain a NPV = 0 (net present value, that is NPV), this is as follows.

$PV=\frac{CF1}{(1+r)^{1} } +\frac{CF2}{(1+r)^{2} } +\frac{CF3}{(1+r)^{3} }$

Everything should look like this

$PV=\frac{1,500}{(1+0.10)^{1} } +\frac{2,100}{(1+0.10)^{2} } +\frac{3,200}{(1+0.10)^{3} }$

$PV= 1,363.64+1,735.54+2,404.21=5,503.38$

So, the most that Anthony should be willing to pay for this diagnostic computer system is $5,503 (rounded to the nearest dollar)

Best of luck.