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Ann Arbor is considering offering public bus service for free. Setting up the service will cost the city 0.9M (where M stands for million). The useful life of the buses is 16 years. Annual maintenance of the buses would cost $60,000 per year and they would need a major overhaul in year 10 that will cost a total of $535,000. This overhaul is in addition to the annual maintenance. Annual operating costs will begin at $95,000 in year 1 and grow at 1.0% per year thereafter. By using the buses as advertisement space, the city will generate a revenue of $170,000 in year 1 and it will grow at 6.5% per year thereafter. Reduced parking requirements and other benefits generated by the project will save the city $115,000 per year. The salvage value (price the city can get in the future after maintenance) of the used buses in year 16 is expected to be $190,000.
Problem 1: What is the NPV of the bus proposal? Ann Arbor does not pay taxes and the discount rate is 5.6%. Assume that all cash flows except initial investments happen at the end of the year and you are strongly encouraged to use a spreadsheet to solve this problem.
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