5 pts An equipment costing 60000 is being evaluated for a pr

5 pts An equipment costing $60,000 is being evaluated for a production process at Don Jones Co. The expected benefits per year is $5,000 and estimated salvage value is $19,000. Determine the rate of return the company can get in this equipment proposal. Equipment life 20 years. 7.1 7.5 6.6 6.8

Solution

The Correct answer is 6.6

To get the equipment proposal the Present Value of benefits per year and Salvage value at the end of 20th year should be equal to the cost of equipment.

Cost of Equipment = $60,000

Expected Benefits every year = $5,000

Salvage value = $19,000

Therefore

Cost of equipment = Expected benefits each year * Present Value of Annuity Factor (r,n) + Salvage amount * Present Value of Interest Factor (r,n)

r would be the rate of return

Let us first take 7.1%

Cost of equipment = Expected benefits each year * Present Value of Annuity Factor (r,n) + Salvage amount * Present Value of Interest Factor (r,n)

= $5,000 * Present Value of Annuity Factor (7.1%,20) + $19,000 * Present Value of Interest Factor (7.1%,20)

= $5,000 *10.51217 + $19,000 * 0.25364

= $52,560.85 + $4,819.16

= $57,380.01

To acheive the value of $60,000 we need to take rate of return lower than 7.1%

Taking rate of return 6.6%

= $5,000 * Present Value of Annuity Factor (6.6%,20) + $19,000 * Present Value of Interest Factor (6.6%,20)

= $5,000 *10.93152 + $19,000 * 0.27852

= $54,657.6 + 5291.88

= $59,949.48

This value is approximately $60,000

Therefore rate of return to get the equipment proposal is 6.6%