Westland College has a telephone system that is in poor condition. The system either can be overhauled or replaced with a new system. The following data have been gathered concerning these two alternatives:
$\begin{array}{|l|r|r|}
\hline \text { Purchase Cost New } & \begin{array}{r}
\text { Present } \
\text { System }
\end{array} & \begin{array}{r}
\text { Proposed New } \
\text { System }
\end{array} \
\hline \text { Accumulated Depreciation } & \$ 250,000 & \$ 300,000 \
\hline \text { Overhaul costs needed now } & \$ 240,000 & \
\hline \text { Annual Cash operating costs } & \$ 230,000 & \
\hline \text { Salvage value now } & \$ 180,000 & \$ 170,000 \
\hline \text { Salvage value at the end of eight years } & \$ 160,000 & \$ 165,000 \
\hline \text { Working capital required } & \$ 152,000 & \$ 200,000 \
\hline
\end{array}$
Westland College uses a $10 \%$ discount rate and the total - cost approach to capital budgeting analysis. Both alternatives are expected to have a useful life of eight years. (Ignore income taxes in this problem.)
- What is the net present value of the alternative of overhauling the present system? (Do not round your intermediate calculations and round your final answer to the nearest whole number.)
A) ($1,035,406).
B) ($1,190,287).
C) ($1,119,378).
D) $717,225.

Question

Quizplus · Accepted Answer

The net present value (NPV) of overhauling the present system can be calculated by considering the overhaul costs, the annual cash operating costs, the salvage value at the end of eight years, and the working capital required, discounted at the 10% discount rate over the eight-year period.1. **Initial Overhaul Costs**: This is an immediate outflow, so $ \$240,000 $.2. **Annual Cash Operating Costs**: These costs amount to $ \$230,000 $ annually. The present value of an annuity can be calculated using the formula $\text{PVA} = P \times \left[\frac{1 - (1 + r)^{-n}}{r}\right]$, where $P$ is the annual payment, $r$ is the discount rate, and $n$ is the number of periods. For $ \$230,000 $ over 8 years at a 10% discount rate, this gives a present value of $ \$230,000 \times 5.3349 = \$1,227,027 $ (using the annuity factor for 10% and 8 years).3. **Salvage Value at the End of Eight Years**: The salvage value is $ \$160,000 $, which needs to be discounted back to its present value using the formula $\text{PV} = \frac{FV}{(1 + r)^n}$, where $FV$ is the future value, $r$ is the discount rate, and $n$ is the number of periods. This gives $ \$160,000 / (1.1)^8 = \$73,501 $.4. **Working Capital Required**: The working capital of $ \$152,000 $ is an initial outflow but is typically recovered at the end of the project life, so it should be added back to the salvage value. The present value of the working capital recovered at the end of the project is $ \$152,000 / (1.1)^8 = \$69,851 $.Adding these components together:- Initial Overhaul Costs: $ -\$240,000 $- Present Value of Annual Operating Costs: $ -\$1,227,027 $- Present Value of Salvage Value: $ +\$73,501 $- Present Value of Recovered Working Capital: $ +\$69,851 $The NPV is $ -\$240,000 - \$1,227,027 + \$73,501 + \$69,851 = -\$1,323,675 $.However, none of the provided options match this calculation directly, indicating a possible misunderstanding in the calculation process or an error in the provided options. Given the options, the closest to a reasonable interpretation of the calculation process is option C, but it should be noted that the exact calculation based on the provided data and standard NPV formula does not directly align with any of the given choices. This suggests there may be additional considerations or a specific calculation method intended by the question that hasn't been fully captured in the provided explanation.

Westland College Has a Telephone System That Is in Poor