Chapter 13 HW Set 2 Saved Help Save & 8 Casey Nelson is a divisional manager for

Question

Chapter 13 HW Set 2 Saved Help Save & 8 Casey Nelson is a divisional manager for Pigeon Company. His annual pay raises are largely determined by his division's return on investment (ROI), which has been above 20% each of the last three years. Casey is considering a capital budgeting project that would require a $3,500,000 investment in equipment with a useful life of five years and no salvage value. Pigeon Company's discount rate is 16%. The project would provide net operating income each year for five years as follows 12.5 polnts Sales Variable expenses Contribution margin Fixed expenses: $3,400,e00 1,600,000 1,800,000 eBook Print Advertising, salaries, and other fixed out-of-pocket costs Depreciation $ 700,00e 00,000 Total fixed expenses Net operating income 1,400,600 S 480,000 Click here to view Exhibit 13B-1 and Exhibit 13B-2. to determine the appropriate discount factor(s) using tables Required 1. What is the project's net present value? 2. What is the project's internal rate of return? 3. What is the project's simple rate of return? 4-a. Would the company want Casey to pursue this investment opportunity? 4-b. Would Casey be inclined to pursue this investment opportunity?

Explanation / Answer

ans 1 Annual cash flows (400000+700000) $1,100,000 PVIFA(16%,5) 3.274 PV of Annula cash flows $3,601,400 Less: Initial Investment 3500000 NPV $101,400 ans 2 IRR is point where NPV is o we need to use trial and error methos to find discount rate Lets take 17% Annual cash flows (400000+700000) $1,100,000 PVIFA(17%,5) 3.199 PV of Annula cash flows $3,518,900 Less: Initial Investment 3500000 NPV $18,900 So IRR is between 17 and 18% it is 17.24% So if rounded off` 17% if taken upto 2 decimals 17.24% ans 3 Simpale rate of return 11.43 % Net income/Investment*100 400000/3500000*100 ans 4a Yes as NPV is positive an IRR is more than 17% ans 4b No as for him ROI is 20% and IRR is 17%

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