Lou Barlow, a divisional manager for Sage Company, has an opportunity to manufac

Question

Lou Barlow, a divisional manager for Sage Company, has an opportunity to manufacture and sell one of two new products for a five-year period. His annual pay raises are determined by his division's return on investment (ROI), which has exceeded 23% each of the last three years. He has computed the cost and revenue estimates for each product as follows: Product A Product B Initial investment: Cost of equipment (zero salvage value Annual revenues and costs: Sales revenues Variable expenses Depreciation expense Fixed out-of-pocket operating costs $280,000 490,000 $340,000 440,000 $156,000 S206,000 56,000 98,000 $79,000 59,000 The company's discount rate is 15%. Click here to view Exhibit 11B-1 and Exhibit 11B-2, to determine the appropriate discount factor(s) using tables. Required 1. Calculate the payback period for each product. (Round your answers to 2 decimal places.) Product A Product B Payback period 2.67 years 2.80 years Calculate the net present value for each product. (Use the appropriate table to determine the 2. discount factor(s).) Product A Product B Net present value 3. Calculate the project profitability index for each product. (Use the appropriate table to determine the discount factor(s). Round your answers to 2 decimal places.) ProductA Product B Project profitability index 4. Calculate the simple rate of return for each product. (Round percentage answer to 1 decimal place. i.e. 0.1234 should be considered as 12.3% and use the appropriate table to determine the discount factor(s).) Product A Product B Simple rate of return

Explanation / Answer

Computation of Annual Income and annual cash inflows Product A Product B Annual revenues 340000 440000 Less: cash expense Variable expense 156000 206000 Fixed expense 79000 59000 Annual cash inflows 105000 175000 Less: Depreciation 56000 98000 Annual net income 49000 77000 Req 1: Payback period Product A Pproduct B Initial investment 280000 490000 Divide: Annual cash inflows 105000 175000 Payback period 2.67 2.8 Req 2: NPV Product A Product B Annual inflows 105000 175000 Annuity factor at 15% 3.3522 3.3522 Present value of inflows 351981 586635 Less: Initial investment 280000 490000 Net present value 71981 96635 Req 3: Product A Product B Present value of Inflows 351981 586635 Divide: Initial investment 280000 490000 PI 1.26 1.2 Req 4: Simple rate of return Product A Product B Annual income 49000 77000 Divide: Average investment 140000 245000 (Investment /2) Simple rate of return 35% 31.43%

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