Problem 10-9 NPVs and IRRs for Mutually Exclusive Projects Davis Industries must

Question

Problem 10-9
NPVs and IRRs for Mutually Exclusive Projects

Davis Industries must choose between a gas-powered and an electric-powered forklift truck for moving materials in its factory. Since both forklifts perform the same function, the firm will choose only one. (They are mutually exclusive investments.) The electric-powered truck will cost more, but it will be less expensive to operate; it will cost $21,500, whereas the gas-powered truck will cost $17,960. The cost of capital that applies to both investments is 13%. The life for both types of truck is estimated to be 6 years, during which time the net cash flows for the electric-powered truck will be $6,860 per year and those for the gas-powered truck will be $4,600 per year. Annual net cash flows include depreciation expenses.

Calculate the NPV for each type of truck. Round your answers to the nearest dollar.

Calculate the IRR for each type of truck. Round your answers to two decimal places.

Which type of the truck should the firm purchase?
Electric or gas powered?

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Solution

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Explanation / Answer

NPV of Electric Powered truck

Cash flow

Year 0 - $21,500

Year-1-6 = $6860*3.9975

=$27423

NPV= $27423-$21500

= $5923

Gas Powered Truck :

Initial Outlay= $17,960

PV of Cash Inflow= $4600*3.9975

= 18389

NPV of Gas Power truck= $429

IRR

IRR is the rate at which the NPV becomes Zero in the case of Electric Power truck at the rate of 22.43% NPV becomes Zero. so IRR is 22.43%

In Case of Gas Pwer Truck IRR is 13.85% at which NPV becomes zero.

The firm should choose the electric-powered forklift because it has a higher NPV & a higher IRR

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