Please solve this problem Exercise 24-11 Drake Corporation is reviewing an inves

Question

Please solve this problem

Exercise 24-11 Drake Corporation is reviewing an investment proposal. The initial cost and estimates of the book value of the investment at the end of each year, the net cash flows for each year, and the net income for each year are presented in the schedule below. All cash flows are assumed to take place at the end of the year. The salvage value of the investment at the end of each year is equal to its book value. There would be no salvage value at the end of the investment's life Initial Cost Annual Cash Flows Annual Net Income Year and Book Value 0 $104,700 69,500 41,000 21,900 9,000 $44,600 39,200 36,000 30,800 24,200 $9,400 10,700 16,900 17,900 15,200 Drake Corporation uses an 11% target rate of return for new investment proposals. What is the cash payback period for this proposal? (Round answer to 2 decimal places, e.g. 10.50.) Cash payback period years

Explanation / Answer

a) Cash payback period = 2 + (104700-83800)/36000 = 2 + (20900/36000) = 2 + 0.58 = 2.58 years

b) Annual rate of return for the investment = Average accounting profit/Initial investment

Average accounting profit = (9400+10700+16900+17900+15200)/5 = 14020

Initial investment = 104700

Annual rate of return for the investment = 14020/104700 *100 = 13.39%

Note: In some formulas, insted of initial investment, average investment is used. In this case we will take (104700 + 0)/2 = 52350 in denominator and annual return will be 14020/52350 *100 = 26.78%

c) Present value of cashflows = 44600*0.9009 + 39200*0.8116 + 36000*0.7311 + 30800*0.6587 + 24200*0.5934

= 40180.14 +31814.72 +26319.6 + 20287.96 + 14360.28 = 132962.70

Net Present value = Present value of cashflows - outflows = 132962.70 - 104700 = 28262.70

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