Task: Fixed and Current Assets: Evaluations of Performance.
Metro Hospital has been under pressure to keep costs down. Indeed, the hospital administrator has been managing various revenue-producing centres to maximize contributions to the recovery of operating costs of the hospital as a whole. The administrator has been considering whether to buy a special- purpose X ray machiine for $193,000. Its unique characteristics would generate additional cash operating income of $50,000 per year for the hospital as a whole.
The machine is expected to have a useful life of six years and a terminal salvage value of $22,000
The machine is delicate. It requires a constant inventory of various supplies and spare parts. When these items can no longer be used, they are instantly replaced, so an investment of $15,000 must be maintained at all times. However, this investment is fully recoverable at the end of the useful life of the machine.
Question 1) Compute the net present value if the required rate if return is 14 percent.
Question 2) Compute the internal rate of return (to the nearest whole percentage).
Question 3) Compute the accounting rate of return on a (a) the initial investment and (b) the "average" investment.
Question 4) Why might the administrator be reluctant to base her decision on the DFC model?