Gallatin, Inc., has assembled the estimates shown below relating to a proposed new product. These estimates are based on a 5-year project life, at the end of which the new equipment would be sold, working capital would revert to other uses in the company, and the product would be discontinued. Gallatin uses a discount rate of 10%. (Ignore income taxes.) Annual cash sales$450,000Annual out-of-pocket cash expenses$340,000Annual depreciation on new equipment$52,000Initial cost of new equipment$300,000Salvage value of equipment in 5 years$50,000Working capital requirement$60,000Refer to Exhibit 12B-1 and Exhibit 12B-2, to determine the appropriate discount factor(s) using the tables provided.Required:Compute the net present value of the new product.
What will be an ideal response?
| Year | |||||||||
| Now | 1-5 | 5 | |||||||
| Initial investment | $ | (300,000 | ) | ||||||
| Working capital | $ | (60,000 | ) | $ | 60,000 | ||||
| Annual net cash flow ($450,000 ? $340,000) | $ | 110,000 | |||||||
| Salvage value | $ | 50,000 | |||||||
| Total cash flows (a) | $ | (360,000 | ) | $ | 110,000 | $ | 110,000 | ||
| Discount factor (10%) (b) | 1.000 | 3.791 | 0.621 | ||||||
| Present value of cash flows (a) × (b) | $ | (360,000 | ) | $ | 417,010 | $ | 68,310 | ||
| Net present value | $ | 125,320 | |||||||
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