Question

Williams Corp is a manufacturer that is considering adding a new product line - either tillers for tractors (Proposal A) or trailers for trucks (Proposal B). To do so, it will need to invest in new equipment. Williams Corp. has gathered the following information about each proposal: Proposal A's equipment will cost $8,390,000 and is expected to result in annual net cash inflows of $1,530,000 over nine years, with zero residual value at the end of nine years. Proposal B's equipment will cost $7,880,000 and is expected to generate net cash inflows of $980,000 per year for nine years. Estimated residual value for Plan B is $1,075,000. Williams Corp. uses straight-line depreciation and requires an annual rate of return of 6%.

Note: At a 6% discount rate, the present value of annuity of $1 for 9 years is 6.802, and the present value of $1 for 9 years is 0.592.

Answer the following questions. Each question is worth 1 point.

1. Compute depreciation expense per year for Proposal A (using straight-line depreciation):

2. Compute payback period for Proposal A (round answer to one decimal place):

3. Compute accounting rate of return for Proposal B (calculate answer to three decimal places; for example, enter 11.8% as 0.118):

4. Compute net present value (NPV) for Proposal B. Enter as a positive number if NPV is positive, otherwise as a negative. (round answer to the nearest dollar):

5. What is the internal rate of return (IRR) for Proposal A? Enter as a percentage not decimal; e.g., 8.12 not .0812. (Hint: Use an excel formula)

Answer 1

1	Computation of depreciation expense per year for Proposal A (using straight-line depreciation):-
			Proposal A
a	Cost of Equipment	=	$      8,390,000
b	Residual value	=	$                    -
c	Depreciable Amount (a-b)	=	$      8,390,000
d	Life of asset in years	=	9
e	Depreciation expense per year (c/d)	=	$   932,222.22
2	Calculation of Payback period for Proposal A :-
			Proposal A
a	Initial Investment (Cost of equipment)	=	$      8,390,000
b	Estimated Annual Net Cash inflows	=	$      1,530,000
c	Payback period (years) (a/b)	=	5.5
3	Calculation of Accounting rate of return for Proposal B:-
	Accounting rate of return	=	Annual Net Income
			Initial Investment
	Computation of depreciation expense per year for Proposal B (using straight-line depreciation):-
			Proposal B
a	Cost of equipment	=	$      7,880,000
b	Residual value	=	$      1,075,000
c	Depreciable Amount (a-b)	=	$      6,805,000
d	Life of asset in years	=	9
e	Depreciation expense per year (c/d)	=	$   756,111.11
	Calculation of Annual Net Income:-
a	Estimated Annual Net Cash inflows		$         980,000
b	Annual Depreciation expense		$         756,111
c	Estimated Annual Net Income (a-b)		$         223,889
a	Annual Net Income		$         223,889
b	Initial Investment (Cost of Equipment)		$      7,880,000
c	Annual rate of return (a/b *100)		2.8%
	Annual rate of return (a/b)		0.028
4	Calculation of Net present value for Proposal B :-
			Product B
a	Initial Investment (Cost of equipment)	=	$      7,880,000
b	Estimated Annual Cash inflows	=	$         980,000
c	Present Value of an Annuity of Rs.1 @ 6% for 9 years	=	6.802
d	Present Value of Estimated Annual Net cash Inflows (b*c)	=	$6,665,960
e	Estimated Residual value	=	$1,075,000
f	Present Value of Rs.1 @ 6% for 9 years	=	0.592
g	Present Value of Estimated Residual value (e*f)	=	$636,400
h	Net present value (d+g-a)	=	-$577,640

Formulas for above IRR

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