Assume that you adopt a custom software package. Using present value tables, eva
ID: 2745107 • Letter: A
Question
Assume that you adopt a custom software package. Using present value tables, evaluate the cost vs. benefit of a system under the following scenario: The probable cost of the best package is estimated at $20 million to implement. While there are no benefits in the first year, you estimate the system will save the company a net of $4 million the second year after costs and $6 million for the next three years. Interest rate is 2%. Your cost vs. benefit analysis should indicate the total and yearly benefits and discounted costs. Will the project make money at the 2% interest rate? This exercise involves a capital budgeting decision using the net present value method. This method considers the estimated net cash flows for a project's expected life. You can use the following format for your analysis. Alternatively, you can list the years using a vertical format. Year 1 Year 2 Year 3 Year 4 Year 5 Benefits Discounted Total Discounted Value Summarize your findings in an executive summary table with information for easy comparability.
Explanation / Answer
5.434
Present Value of a year = CF(i)/(1+r)^i i is th ith year and r is the rate
for example the present value of the cash flow in the second year = 4/(1+2%)^2 = 3.845
Summing up all the present values gives the NPV = 0.476
Since it is a positive NPV the project should be accepted
cost of capital 2% Cash Flow Year Present Value -20 0 -20 0 1 0 4 2 3.845 6 3 5.654 6 4 5.543 6 55.434