Interstate Manufacturing is considering either replacing one of its old machines with a new machine or having the old machine overhauled. Information about the two alternatives follows. Management requires a 12% rate of return on its investments. Use the (PV of $1, FV of $1, PVA of $1, and FVA of $1) (Use appropriate factor(s) from the tables provided.)
Alternative 1: Keep the old machine and have it overhauled. If the old machine is overhauled, it will be kept for another five years and then sold for its salvage value.
Cost of old machine $108,000
Cost of overhaul 150,000
Annual expected revenues generated 106,000
Annual cash operating costs after overhaul 51,000
Salvage value of old machine in 5 years 22,000
Alternative 2: Sell the old machine and buy a new one. The new machine is more efficient and will yield substantial operating cost savings with more product being produced and sold.
Cost of new machine $292,000
Salvage value of old machine now 40,000
Annual expected revenues generated 87,000
Annual cash operating costs 28,000
Salvage value of new machine in 5 years 14,000
Required:
Determine the net present Value of Alternative 1
Initial cash investment (net).....
i= 12%
year Subsequent Cash inflow (outflow) Table Factor= Present Value
1 .8929 2 1.6901 3 2.4018 4 3.0373 5 3.6048 Present Value of cash inflows .
Present Value of cash outflows ..
Net present value ...
2. Determine the net present value of alternative 2. ^^ Same Format as above
3.Which alternative should management select?

The difference between the current value of future cash inflows and outflows is known as net present value (NPV). NPV is used to evaluate the profitability of a projected investment or project in capital budgeting and investment planning.

Using the appropriate discount rate, calculations are made to determine the NPV, or present value of a stream of future payments. Negative NPV projects should not be pursued, yet positive NPV initiatives frequently are.

When comparing the rates of return of various projects or comparing a projected rate of return with the hurdle rate necessary to accept an investment, one might utilize net present value (NPV), which takes time worth of money into consideration.

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