Question

12. A new software package is expected to improve productivity at X company. However, because of training and implementation costs, savings are not expected to occur until the third year of operation. At that time, savings of $10,000 are expected, increasing by $1,000 per year for the following five years. After this time (eight years from implementation), the software will be abandoned with no scrap value. How much is the software worth today, at 15% interest?

Answer 1

Okay, here are the steps to solve this problem:

1) Savings start in year 3 at $10,000.

2) Savings increase by $1,000 each year for 5 years, so years 4-8 savings are $11,000, $12,000, $13,000, $14,000, $15,000.

3) There are 8 years of savings total.

4) Interest rate is 15%.

To calculate the present value at year 0 (today), we use the following formula:

PV = FV / (1 + r)^n

Where FV is the future value, r is the interest rate, and n is the number of years.

So for year 3 savings of $10,000:

PV = $10,000 / (1 + 0.15)^3 = $8,562

For year 4 savings of $11,000:

PV = $11,000 / (1 + 0.15)^4 = $8,948

And so on...

Adding up the present values for years 3 to 8:

$8,562 + $8,948 + $9,371 + $9,820 + $10,298 + $10,796 + $11,310 + $11,842 = $80,847

Therefore, the total present value of the 8 years of savings is $80,847.

So the software is worth $80,847 today at a 15% interest rate.

Let me know if you have any other questions!