City Sights, Ltd., operates a tour and sightseeing business. Its trademark is the use of trolley buses. Each vehicle has its own identity and is specially made for the company. Gridlock, the oldest bus, was purchased 15 years ago and has 5 years of its estimated useful life remaining. The company paid $25,000 for Gridlock, and the bus could be sold today for $20,000. Gridlock is expected to generate average annual net cash inflows of $24,000 for the remainder of its estimated useful life.
Management wants to replace Gridlock with a modern-looking vehicle called Phantom. Phantom has a purchase price of $140,000 and an estimated useful life of 20 years. Net cash inflows for phantom are projected to be $40,000 per year.
Assume that (1) all cash flows occur at year end, (2) each vehicle’s residual value equals 10 percent. Use Tables 1 and 2 in the appendix on present value tables.
1. Compute the present value of the future cash flows from Gridlock.
2. Compute the net present value of cash flows if Phantom were purchase.
3. Should city Sights keep Gridlock or purchase Phantom?