Determining the internal rate of return 7 LO 16-3 Merton Manufacturing Company h
ID: 2425077 • Letter: D
Question
Determining the internal rate of return 7 LO 16-3
Merton Manufacturing Company has an opportunity to purchase some technologically advanced equipment that will reduce the company’s cash outflow for operating expenses by $1,290,000 per year. The cost of the equipment is $6,408,255.60. Merton expects it to have a 8-year useful life and a zero salvage value. The company has established an investment opportunity hurdle rate of 15 percent and uses the straight-line method for depreciation. (PV of $1 and PVA of $1) (Use appropriate factor(s) from the tables provided.)
Calculate the internal rate of return of the investment opportunity.
INTERNAL RATE OF RETURN ( ) %
Merton Manufacturing Company has an opportunity to purchase some technologically advanced equipment that will reduce the company’s cash outflow for operating expenses by $1,290,000 per year. The cost of the equipment is $6,408,255.60. Merton expects it to have a 8-year useful life and a zero salvage value. The company has established an investment opportunity hurdle rate of 15 percent and uses the straight-line method for depreciation. (PV of $1 and PVA of $1) (Use appropriate factor(s) from the tables provided.)
Explanation / Answer
Solution:
NPV @ 15% Year 0 Year 1 to 8 Cost of Equipment 6,408,255.60 Saving in operating cost 1,290,000 PVAF @ 15% 4.48732 Present value of cashflows 5,788,642.80 NPV = Present value of cashflows - Cost of Equipment -619,612.80 NPV @ 11% Year 0 Year 1 to 8 Cost of Equipment 6,408,255.60 Saving in operating cost 1,290,000 PVAF @ 11% 5.1461 Present value of cashflows 6,638,469.00 NPV = Present value of cashflows - Cost of Equipment 230,213.40 IRR = 11 % + ( 230,213.50 / ( 230,213.40 - ( -619,612.80) * 4% = 12.08 %Related Questions
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