Merrill Corp. has the following information available about a potential capital
ID: 2534256 • Letter: M
Question
Merrill Corp. has the following information available about a potential capital investment Initial investment Annual net income Expected life Salvage value Merrill's cost of capital 5 900,000 $ 90,000 8 years S 100,000 7% Assume straight line depreciation method is used. Required: 1. Calculate the project's net present value. (Future Value ot $1. Present Value of $1. Future Value Annuity of $1. Present Value Annuity of $1.) (Use appropriate factor(s) from the tables provided. Do not round intermediate calculations. Round the final answer to nearest whole dollar.) Net Present Value 2. Without making any calculations, determine whether the internal rate of return (IRR) is more or less than 7 percent O Less than 7 Percent Greater than 7 Percent 3. Calculate the net present value using a 14 percent discount rate. (Future Value of $1. Present Value of $1. Future Value Annuity of $1. Present Value Annuity of $1.) (Use appropriate factor(s) from the tables provided. Do not round intermediate calculations. Round the final answer to nearest whole dollar.) Net Present ValueExplanation / Answer
1) Net Present Value $ 2,92,748 2) Greater than 7 percent IRR is the rate at which Net Present Value is zero.Further,Present Value of cash inflows and discount rate have adverse relation. It means greater discount rate will give lower Present Value of cash inflows and lower discount rate will give higher present value of cash inflows. Since at 7% Net Presnt Value is more than zero.So rate at which Net Present value becomes zero will be ofcourse higher of 7%. 3) Net Present Value $ 16,440 Note:You may see that as discount rate increases from 7% to 14% ,Net Present value has been reduced. Worings: Step-1:Calculate Annual Cash fow Annual Net Income $ 90,000 Depreciation $ 1,00,000 Annual Cash flow $ 1,90,000 Working: Depreciation expense per year = (Cost-salvage Value)/Estimated useful life = (900000-100000)/8 = $ 1,00,000 Step-2:Calculate Net Present Value at 7% Present Value of annual cash flow $ 1,90,000 x 5.971299 = $ 11,34,547 Present Value of salvage value $ 1,00,000 x (1.07^-8) = $ 58,201 Total Present Value of Cash inflows $ 11,92,748 Less:Initial Investment $ 9,00,000 Net Present Value $ 2,92,748 Working; Cumulative discount factor = (1-(1+i)^-n)/i Where, = (1-(1+0.07)^-8)/0.07 i 7% = 5.9712985 n 8 Step-3:Net Present Value at 14% Present Value of annual cash flow $ 1,90,000 x 4.638864 = $ 8,81,384 Present Value of salvage value $ 1,00,000 x (1.14^-8) = $ 35,056 Total Present Value of Cash inflows $ 9,16,440 Less:Initial Investment $ 9,00,000 Net Present Value $ 16,440 Working; Cumulative discount factor = (1-(1+i)^-n)/i Where, = (1-(1+0.14)^-8)/0.14 i 14% = 4.6388639 n 8