| Tranter, Inc., is considering a project that would have a nine-year life and would require a $3,360,000 investment in equipment. At the end of nine years, the project would terminate and the equipment would have no salvage value. The project would provide net operating income each year as follows: (Ignore income taxes.) |
| Sales | $ | 2,600,000 | |||
| Variable expenses | 1,650,000 | ||||
| Contribution margin | 950,000 | ||||
| Fixed expenses: | |||||
| Fixed out-of-pocket cash expenses | $ | 350,000 | |||
| Depreciation | 250,000 | 600,000 | |||
| Net operating income | $ | 350,000 | |||
| Click here to view Exhibit 13B-2, to determine the appropriate discount factor(s) using tables. |
| All of the above items, except for depreciation, represent cash flows. The company’s required rate of return is 10%. |
| Required: | |
| a. | Compute the project’s net present value. (Negative amount should be indicated by a minus sign. Round discount factor(s) to 3 decimal places, intermediate and final answers to the nearest dollar amount. Omit the “$” sign in your response.) |
| Net present value | $ |
| b. | Compute the project’s internal rate of return to the nearest whole percent. (Round discount factor(s) to 3 decimal places and final answer to the nearest whole percent. Omit the “%” sign in your response.) |
| Internal rate of return | % |
| c. | Compute the project’s payback period. (Round your answer to 1 decimal place.) |
| Payback period | years |
| d. | Compute the project’s simple rate of return. (Round your final answer to the nearest whole percent. Omit the “%” sign in your response.) |
| Simple rate of return | % |
A Compute the project’s net present value.
| Projet Cost | 3,360,000 |
| Life | 9 year |
| Salvage Value | 0 |
| Required rate of return | 10% |
| Net Operating income | 350,000 |
| Add: | |
| Depriciation | 250,000 |
| Net Operating income | 600,000 |
| Year | Cash Flow | PV Factor@10% | PV of Cash Flow |
| 0 | -3360000 | 1 | -3360000 |
| 1 | 600,000 | 0.909090909 | 545454.55 |
| 2 | 600,000 | 0.826446281 | 495867.77 |
| 3 | 600,000 | 0.751314801 | 450788.88 |
| 4 | 600,000 | 0.683013455 | 409808.07 |
| 5 | 600,000 | 0.620921323 | 372552.79 |
| 6 | 600,000 | 0.56447393 | 338684.36 |
| 7 | 600,000 | 0.513158118 | 307894.87 |
| 8 | 600,000 | 0.46650738 | 279904.43 |
| 9 | 600,000 | 0.424097618 | 254458.57 |
| 95414.29 |
NPV = $ 95,414.29
2
Compute the project’s internal rate of return to the nearest whole percent. (
IRR is calculated as follow
Factor of the IRR =Investment required + Annual net cash inflow
IRR= -3360000+600,000(1+r)+ 600,000(1+r)2+ 600,000(1+r)3+ 600,000(1+r)4+ 600,000(1+r)5+ 600,000(1+r)6+ 600,000(1+r)7+ 600,000(1+r)8+ 600,000(1+r)9
By trial and error method we can find out the rate of IRR as
=10.71%
C
Compute the project’s payback period.
Payback period =Investment required + Annual net cash inflow
=3360,000 /600,000
=5.6 year
D
Compute the project’s simple rate of return
Simple rate of return =Annual incremental net operating income + Initial investment
=350,000/3360,000
=0.0744
=7.44%
