Question

As chief engineer for a small manufacturing firm, you are considering whether to invest $40,000 in a new piece of equipment that will save $3000 annually in operating costs. If the equipment has an expected lifetime of 20 years and a salvage value of $12,000, is this an attractive investment at an interest rate of 6%? Why or why not?

Answer 1

Answer:

NPV = ($1,848.57)

Explanation:

The NPV is the difference between the PV of cash inflows and the PV of cash outflows. A positive NPV implies a good investment decision and a negative figure implies the opposite.  

NPV of an investment:  

NPV = PV of Cash inflows - PV of cash outflow  

Initial cost = 40,000

Salvage value = 12,000

Savings in operating cost = 3,000

PV of annual savings : 3000× (1- 1.06^-20)/0.06 =34,409.76

PV of salvage value = 12,000 × 1.06^(-20)=3,741.65

Total PV of cash inflow 34,409.76  + 3,741.65= 38,151.42

NPV = 38,151.42038  - 40,000 = $(1,848.57)

The project should not be implemented because it would delete the shareholders wealth by $1,848.57

NPV = ($1,848.57)