Question

Jack and Jill’s Place is a nonprofit nursery school run by the parents of the enrolled children. Since the school is out of town, it has a well rather than a city water supply. Lately, the well has become unreliable, and the school has had to bring in bottled drinking water. The school’s governing board is considering drilling a new well (at the top of the hill, naturally). The board estimates that a new well would cost $3,025 and save the school $580 annually for 10 years. The school’s hurdle rate is 8 percent.

Answer 1

Answer:

Year      Cashflow     DF@8%       PV

                  $                                   $

0            (3,025)            1             (3,025)

1-10          580            6.7101        3,892

                                      NPV       867

The school's governing board is advised to embark on the project because it has a positive NPV of $867.

Explanation:

In this case, we need to determine the present value of annual savings by multiplying the annual savings by the present value of annuity factor at 8% for 10 years. The initial outlay is deducted from the present value of annual savings in order to obtain the NPV of the project.