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Accounting

27th Edition
WARREN + 5 others
ISBN: 9781337272094

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BuyFindarrow_forward

Accounting

27th Edition
WARREN + 5 others
ISBN: 9781337272094
Textbook Problem

Net present value method for a service company

Carnival Corporation has recently placed into service Mime of the largest cruise ships in the world. One of these ships, the Carnival Breeze, can hold up to 3,600 passengers, and it can cost $800 million to build. Assume the following additional information:

  • There will lie 330 cruise days per year operated at a full capacity of 3.600 passengers.
  • The variable expenses per passenger are estimated to be $110 per cruise day.
  • The revenue per passenger is expected to be $250 per cruise day.
  • The fixed expenses for running the ship, other than depreciation, are estimated to be $20,000,000 per year.
  • The ship has a service life of 10 years, with a residual value of S200.000.000 at the end of 10 years.

 a. Determine the annual net cash flow from operating the cruise ship.

 b. Determine the net present value of this investment, assuming a 12% minimum rate of return. Use the present value tables (Exhibits 2 and 5) provided in the chapter in determining your answer.

a.

To determine

Cash flow:

Cash flow is the monetary consideration (return or income) received by the business for its long-term capital investment.

To determine: The annual net cash flow from operating the cruise ship.

Explanation

The annual net cash flow from operating the cruise ship is $146,320,000.

Working Note:

Calculation of the annual net cash flow:

...

(b)

To determine

Net present value method:

Net present value method is the method which is used to compare the initial cash outflow of investment with the present value of its cash inflows. In the net present value, the interest rate is determined by the business, based on the net income from the investment, and it is also called as the discounted cash flow method.

To calculate: The net present value of the investment.

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