Accounts Question

[furqan90]

Hi,
need help to solve this question although it looks simple but i dont know where to implement the interest rate,would really appreciate if someone can show me the calculations for interest rate and how it will applied to this question

the company is evaluating two proposals to market a new product the current interest rate is 10 percent
Proposal A calls for setting up an in house manufacturing shop to make the product requiring an investment of 500000,the expected profit for the first to fifth years are 150000,200000,250000,150000 and 100000
Proposal B suggests that manufacturing operation be outsourced by contracting an outside shop requiring a front end payment of 300000,the expected profits for the first to fifth years are 50000,150000,200000,300000 and 200000,the profits would be lower in earlier years due to third party markup,which proposal should the company accept?

 

[Triest123]

[QUOTE,the profits would be lower in earlier years due to third party markup,which proposal should the company accept?[/QUOTE]

=> You are required to compute the "Net Present Value" for each proposed project by using
the interest rate 10% as the discounted rate for these projects.

You should choose the project which has the highest "net present value".

 

[furqan90]

thanks a lot @Triest123 you made it easy for me,have another question for u would really appreciate your help,will NPV be used for this too?

You are considering a good looking toyota hybrid car priced at $28000 or an elegant GM luxury car at at $24000.the fuel efficiency is rated at 50 miles per gallon for the toyota and 25 miles per gallon for GM.the annual maintenance cost for both cars is about 0.5 percent of the car price.gasoline in the local market is selling at $2 per gallon.the cars are to be driven about 10000 miles per year,your plan is to keep your car for 5 years only.at the end of the 5th year,the resale values of the toyota and the GM are about 40 percent and 30 percent respectively of their original prices.the interest rate is 6%.
which car is the better choice from the standpoint of costs?

 

[Triest123]

thanks a lot @Triest123 you made it easy for me,have another question for u would really appreciate your help,will NPV be used for this too?

You are considering a good looking toyota hybrid car priced at $28000 or an elegant GM luxury car at at $24000.the fuel efficiency is rated at 50 miles per gallon for the toyota and 25 miles per gallon for GM.the annual maintenance cost for both cars is about 0.5 percent of the car price.gasoline in the local market is selling at $2 per gallon.the cars are to be driven about 10000 miles per year,your plan is to keep your car for 5 years only.at the end of the 5th year,the resale values of the toyota and the GM are about 40 percent and 30 percent respectively of their original prices.the interest rate is 6%.
which car is the better choice from the standpoint of costs?

=> it is a different issue as the revenues of using these cars are not given.

You only need to compute the "present value" of the net total costs for keeping each car (i.e inital buying costs plus the running costs for five years minus the disposal value at the year 5).

You should select the car which has the lowest "present value" of the "net" total costs.

 

[furqan90]

so if the net total cost of Toyota is 21400 i will multiply it by the PV factor of 5 years i.e 0.74726?

 

[Triest123]

so if the net total cost of Toyota is 21400 i will multiply it by the PV factor of 5 years i.e 0.74726?

=> The net total cost of Toyota should be $21,905.38

Toyota
year 1 year 2 year 3 year 4 year 5
Fuel $400 $400 $400 $400 $400
Maintenance $140 $140 $140 $140 $140
Disposal - - - - ($11,200)
___________________________________________
Total $540 $540 $540 $540 ($10,660)

Interest rate : 6%
Present value $509.43 $480.60 $453.39 $427.73 ($7,965.77)

total present value of cash (inflow) for 5 years = ($6,094.62)

So the total present value of the costs of Toyota is $28,000- $6094.62
=$21,905.38

 

[furqan90]

@Triest123 Thanks a lot mate really appreciate your help