Wendell’s Donut Shoppe is investigating the purchase of a new $47,300 donut-maki

Question

Wendell’s Donut Shoppe is investigating the purchase of a new $47,300 donut-making machine. The new machine would permit the company to reduce the amount of part-time help needed, at a cost savings of $6,300 per year. In addition, the new machine would allow the company to produce one new style of donut, resulting in the sale of 2,600 dozen more donuts each year. The company realizes a contribution margin of $1.50 per dozen donuts sold. The new machine would have a six-year useful life.

  

Click here to view Exhibit 13B-1 and Exhibit 13B-2, to determine the appropriate discount factor(s) using tables.

  

What would be the total annual cash inflows associated with the new machine for capital budgeting purposes?

$0

Find the internal rate of return promised by the new machine to the nearest whole percent.

3.  
In addition to the data given previously, assume that the machine will have a $12,000 salvage value at the end of six years. Under these conditions, compute the internal rate of return to the nearest whole percent. (Round discount factor(s) to 3 decimal places.)

Wendell’s Donut Shoppe is investigating the purchase of a new $47,300 donut-making machine. The new machine would permit the company to reduce the amount of part-time help needed, at a cost savings of $6,300 per year. In addition, the new machine would allow the company to produce one new style of donut, resulting in the sale of 2,600 dozen more donuts each year. The company realizes a contribution margin of $1.50 per dozen donuts sold. The new machine would have a six-year useful life.

Explanation / Answer

1.

2.

NPV @ 5%

= Present Value of Cash inflows - Present Value of Cash outlfows

= [10200x 5.076] - 47300

= $4475

NPV @ 10%

= Present Value of Cash inflows - Present Value of Cash outlfows

= [10200x4.355] - 47300

= -$2779

Internal Rate of Return = Lower Rate + [Lower rate NPV/ (Lower rate NPV - Higher rate NPV] x Difference in rates

= 5 + [4475 / (4475+2779)] x 5

= 8%

3. NPV @ 5%

= Present Value of Cash inflows - Present Value of Cash outlfows

= [(10200x 4.355) + (12000x0.564)] - 47300

= $3889

NPV @ 15%

= [(10200x 3.784) + (12000x0.432)] - 47300

= -$3519

Internal Rate of Return = Lower Rate + [Lower rate NPV/ (Lower rate NPV - Higher rate NPV] x Difference in rates

= 10 + [3889 / (3889+3519)] x 5

= 13%

$ Annual Savings in Part-time help 6300 Added Contribution Margin from expanded sales 2600x1.50 3900 Annual Cash Inflows 10200

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