Please use excel Winston Clinic is evaluating whether to install a new MRI machi
ID: 2779882 • Letter: P
Question
Please use excel
Winston Clinic is evaluating whether to install a new MRI machine, which worth about $1 million. The hospital plan to use this machine for 15 years and the salvage value is about $150,000. The hospital estimated the possible income generated by the MRI machine. The first five years will be $100,000. The next 10 years will be about $150,000. And the cost of capital for Winston Clinic is 7.09%.
(1) What is the net present value of this MRI project? Should Winston Clinic accept this project? (6 points)
(2) What is the internal rate of return of this project? Should Winston Clinic accept this project? (6 points)
(3) In order to improve the accuracy of decision, Winston Clinic used scenario analysis to evaluate the project. The followings are possible cash flows under different scenarios with corresponding probabilities:
Probability Cash Flows
Best 20% $120,000 in the first five years, $180,000 in the next ten years
Average 60% $100,000 in the first five years, $150,000 in the next ten years
Worst 20% $70,000 in the first four years, $100,000 in the next ten years
Using the same corporate cost of capital at 7.09%, what is the expected NPV of this project? Would Winston Clinic still accept this project? (
Explanation / Answer
1) On a financial calculator, insert I/Y = 7.09%
CF0 = -1,000,000, CF1...CF5 = 100,000, CF6...CF15 = 150,000
=> Compute NPV = $153,937.95. As the NPV > 0, accept this project.
2) Compute IRR = 9.22%. As the IRR > cost of capital, accept this project.
3) We need to compute NPV for all three cases using the approach in 1)
Best NPV = $384,725.54
Average NPV = $153,937.95
Worst NPV = -217,073.58
Expected NPV = 20% x 384,725.54 + 60% x 153,937.95 + 20% x -217,073.58
= $125,893.16
As NPV > 0, we still accept the project.