Saturday, February 11, 2012

Question Annuity,NPV and Equivalent Annual Cost

Your parents have been putting RM1,000 into your son's saving account on every birthday since your son turned 1 years old. The account pays an annual interest of  5%. How much money will be in the account on his 18th birthday, that is, immediately after the deposit for that birthday?

A project requires an investment in machinery today of RM20 million. That investment can be depreciated for tax purposes straight - line to zero over 5 years. Starting one year from now and ending 4 years from now, the project will generate annual revenues of RM19 million and expenses of RM15 million, both pretax. An immediate working capital investment of RM 1 million is required, and working capital will remain at that level until recovered 4 years from now. Also at year 4, the machinery will be sold for RM10 million. The firm is taxed at 35%. An appropriate discount rate is 9%. Calculate the NPV.

Explain when is it appropriate to use the Equivalent Annual Cost (EAC) methodology, and how do you make a decision using it?

Source: Corporate Finance First Semester Examination Academic Session 2011/2012, Master of Business Administration, Universiti Sains Malaysia

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