Question

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. Because 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 $22,000, whereas the gas-powered truck will cost $17,500. The cost of capital that applies to both investments is 12%. 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 $6,290 per year and those for the gas-powered truck will be $5,000 per year. Annual net cash flows include depreciation expenses.

1. Calculate the NPV for each type of truck. Do not round intermediate calculations. Round your answers to the nearest dollar.

   Electric-powered truck	$
   Gas-powered truck	$

2. Calculate the IRR for each type of truck. Do not round intermediate calculations. Round your answers to two decimal places.

   Electric-powered truck	%
   Gas-powered truck	%

   Which type of the truck should the firm purchase?
   -Select-Electric-poweredGas-powered

Answer 1

a
Electric powered
Discount rate	0.12
Year	0	1	2	3	4	5	6
Cash flow stream	-22000	6290	6290	6290	6290	6290	6290
Discounting factor	1	1.12	1.2544	1.404928	1.5735194	1.762342	1.973823
Discounted cash flows project	-22000	5616.071	5014.349	4477.098	3997.4087	3569.115	3186.71
NPV = Sum of discounted cash flows
NPV Electric powered =	3860.75
Where
Discounting factor =	(1 + discount rate)^(Corresponding period in years)
Discounted Cashflow=	Cash flow stream/discounting factor
Gas powered
Discount rate	0.12
Year	0	1	2	3	4	5	6
Cash flow stream	-17500	5000	5000	5000	5000	5000	5000
Discounting factor	1	1.12	1.2544	1.404928	1.5735194	1.762342	1.973823
Discounted cash flows project	-17500	4464.286	3985.969	3558.901	3177.5904	2837.134	2533.156
NPV = Sum of discounted cash flows
NPV Gas powered =	3057.04
Where
Discounting factor =	(1 + discount rate)^(Corresponding period in years)
Discounted Cashflow=	Cash flow stream/discounting factor
b
Electric powered
IRR is the rate at which NPV =0
IRR	0.179998583
Year	0	1	2	3	4	5	6
Cash flow stream	-22000	6290	6290	6290	6290	6290	6290
Discounting factor	1	1.179999	1.392397	1.643026	1.9387684	2.287744	2.699535
Discounted cash flows project	-2200000.00%	5330.515	4517.391	3828.302	3244.3276	2749.433	2330.031
NPV = Sum of discounted cash flows
NPV Electric powered =	2.07101E-05
Where
Discounting factor =	(1 + IRR)^(Corresponding period in years)
Discounted Cashflow=	Cash flow stream/discounting factor
IRR=	18%
Gas powered
IRR is the rate at which NPV =0
IRR	0.179732785
Year	0	1	2	3	4	5	6
Cash flow stream	-17500	5000	5000	5000	5000	5000	5000
Discounting factor	1	1.179733	1.391769	1.641916	1.9370222	2.285169	2.695888
Discounted cash flows project	-17500	4238.248	3592.549	3045.223	2581.2817	2188.022	1854.676
NPV = Sum of discounted cash flows
NPV Gas powered =	1.59426E-05
Where
Discounting factor =	(1 + IRR)^(Corresponding period in years)
Discounted Cashflow=	Cash flow stream/discounting factor
IRR=	17.97%

Accept electric as it has higher NPV and IRR