Cardinal Company is considering a five-year project that would require a $2,975,
ID: 2478993 • Letter: C
Question
Cardinal Company is considering a five-year project that would require a $2,975,000 investment in equipment with a useful life of five years and no salvage value. The company’s discount rate is 14%. The project would provide net operating income in each of five years as follows:
What is the project profitability index for this project? (Round discount factor(s) to 3 decimal places and final answer to 2 decimal places.)
What is the project’s payback period? (Round your answer to 2 decimal places.)
What is the project’s simple rate of return for each of the five years? (Round your answer to 2 decimal places. i.e. 0.12342 should be considered as 12.34%.)
Assume a postaudit showed that all estimates (including total sales) were exactly correct except for the variable expense ratio, which actually turned out to be 45%. What was the project’s actual net present value? (Negative amount should be indicated by a minus sign. Round discount factor(s) to 3 decimal places, intermediate calculations and final answer to the nearest whole dollar amount.)
14. Assume a postaudit showed that all estimates (including total sales) were exactly correct except for the variable expense ratio, which actually turned out to be 45%. What was the project’s actual payback period? (Round your answer to 2 decimal places.)
15.
Assume a postaudit showed that all estimates (including total sales) were exactly correct except for the variable expense ratio, which actually turned out to be 45%. What was the project’s actual simple rate of return? (Round your answer to 2 decimal places. i.e. 0.12342 should be considered as 12.34%.)
Cardinal Company is considering a five-year project that would require a $2,975,000 investment in equipment with a useful life of five years and no salvage value. The company’s discount rate is 14%. The project would provide net operating income in each of five years as follows:
Explanation / Answer
What is the project profitability index for this project?
PI = NPV/Initial Investment
Let's first calculate NPV
There are times when depreciation is used in NPV problems (when income tax information is given) but this isn't one of them.
405,000 + 595,000 = $1,000,000 annual cash flows
Present value of a single sum
PV = FV [ 1 / ((1 + i)^n) ]
Where:
PV = Present Value
FV = Future Value (0) salvage value
i = Interest Rate Per Period (0.14)
n = Number of Compounding Periods (5)
= 0
Present value of an ordinary annuity
PVoa = PMT [(1 - (1 / ((1 + i)^n()) / i]
Where:
PVoa = Present Value of an Ordinary Annuity
PMT = Amount of each payment (1,000,000)
i = Discount Rate Per Period (0.14)
n = Number of Periods (5)
= $2,709,776.17
$0+ $2,709,776.17 - $2,975,000 = -$265,223.83 = NPV
Profitability Index = -265223.83/2975000 = -0.09
What is the project’s payback period? (Round your answer to 2 decimal places.)
The investment in the project is fully recovered in the 3rd year. To be more exact, the payback period is approximately 2.98 years (2 years + ($975,000 / $1,000,000).
What is the project’s simple rate of return for each of the five years? (Round your answer to 2 decimal places. i.e. 0.12342 should be considered as 12.34%.)
Cost of the equipment = $2,975,000
Less Scrap value = $0
Initial Investment = $2,975,000
Simple rate of retrun = Annual incremental net operating income / Initial investment
Simple ror = 405,000/2,975,000 = 13.61%
Assume a postaudit showed that all estimates (including total sales) were exactly correct except for the variable expense ratio, which actually turned out to be 45%. What was the project’s actual net present value?
The new contribution margin would be $2,735,000 × 55% = $1,504,250. The new net operating income would be $1,504,250 – $1,330,000 = $174,250. The remaining calculations are as follows
Net operating income $ 174,250
Add: Noncash deduction for depreciation 595,000
Annual net cash inflow $ 769,250
Assume a postaudit showed that all estimates (including total sales) were exactly correct except for the variable expense ratio, which actually turned out to be 45%. What was the project’s actual payback period?
The investment in the project is fully recovered in the 4th year. To be more exact, the payback period is approximately 3.87 years (3 years + ($667,250 / $769,250).
Assume a postaudit showed that all estimates (including total sales) were exactly correct except for the variable expense ratio, which actually turned out to be 45%. What was the project’s actual simple rate of return?
Simple rate of return = Annula cash flow/ Initila investment = 769,250/2,975,000 = 26%
Year Investement Cash inflow Unrecivered investment 1 2,975,000 1,000,000 $1,975,000 2 $1,000,000 $975,000 3 $1,000,000 0 4 $1,000,000 0 5 $1,000,000 0