Problem 1. (Ignore income taxes in this problem) Five years ago, the City of Apple spent $30,000 to purchase a computerized radar system called Green Apples. Recently, a sales rep from Green Apples told the city manager about a new and improved radar system that can be purchased for $50,000. The rep. also told the manager that the company would give the city $10,000 in trade on the old system. The new system will last 10 years. The old system will also last that long but only if a $4,000 upgrade is done in 5 years. The manager assembled the following information to use in the decision as to which system is more desirable:
Old System New System
Cost of radar system....................$30,000 $50,000
Current salvage value.................. $10,000 -
Salvage value in 10 years.............. $5,000 $8.000
Annual operating costs................ $34,000 $29,000
Upgrade required in 5 years............ $4,000 -
Discount rate............................. 14% 14%
Required to do:
A. What is the City of Apple's net present value for the decision described above? Use the total cost approach.
B. Should the City of Apple's purchase the new system or keep the old system?
Problem 2. Peach Lindt is a division of a major corporation. The following data are for the latest year of operations:
Sales..............................................................................$25,550,000
Net operating income.................................................... $1,149,750
Average operating assets.............................................. $7,000,000
The company's minimum required rate of return.......... 14%
Required:
A. What is the division's return on investment (ROI)?
B. What is the division's residual income?