Exercise 241 Linkin Corporation is considering purchasing a

Exercise 24-1 Linkin Corporation is considering purchasing a new delivery truck. The truck has many advantages over the company\'s current truck (not the least of which is that it runs). The new truck would cost s55,800. Because of the increased capacity, reduced maintenance costs and increased fuel economy, the new truck is expected to generate cost savings of $7,400. At the end of 8 years the company will sell the truck for an estimated 27,000. Traditionally the company has used a rule of thumb that a proposal should not be accepted unless it has a payback penod that is less than 50% o the asset\'s estimated useful life. Larry Newton, a new manager, has suggested that the compa should not rely solely on the payback approach but should also employ the net present value method when evaluating new projects. The company\'s cost of capital is 8%. Click here to view PV table Compute the cash payback period and net present value of the proposed investment. (If the net present value is negative, use either a negative sign preceding the number eg -45 or parentheses eg (45). Round answer for present value to 0 decimal places, e.g. 125. Round answer for Payback period to 1 decimal place, e.g.10.5. For calculation purposes, use 5 decimal places as displayed in the factor table provided.) Cash payback period Net present value s years Does the project meet the company\'s cash payback criteria? Does it meet the net present value criteria for acceptance? ?:/??. Click if you would like to Show Work for this question LINK TO TEXT LINK TO TEXT EXERCISE Question Attempts: O of 2 used SAVE FOR LATER SUBMIT ANSWER

Solution

a)

Cost of new truck = $55800

Cost savings per year = $7400

Estimated sale value = $27000

Estimated useful life = 8 years

Cost of capital = 8%

Cash payback period = Cost of new truck/Cost savings per year

= 55800/7400 = 7.5 years

Net present value = Present value of cash savings - Present value of cash outflows i.e. cost of truck + Present value of estimated selling price

Present value of cash savings = 7400*Present value annuity factor(8%,8)

= 7400*5.7466 = 42524.84

Present value of cash outflows = 55800

Presentvalue of estimated selling price = 27000*Present value interest factor(8%,8)

= 27000*0.5402 = 14585.4

Net present value = 42524.84 - 55800 + 14585.4 = 1310.24 i.e. 1310

b)

Does the project meet the company\'s cash payback criteria? - No , because accetable payback period is 50% of useful life which is 8/2 = 4 years and asset payback period is 7.5 years

Does it meet the net present value criteria for acceptance? Yes, because NPV is positive.