Question

Bob Jensen Inc. purchased a $750,000 machine to manufacture specialty taps for electrical equipment. Jensen expects to sell all it can manufacture in the next 10 years. To encourage capital investments, the government has exempted taxes on profits from new investments. This legislation is to be in effect for the foreseeable future. The machine is expected to have a 10-year useful life with no salvage value. Jensen uses straight-line depreciation. The net cash inflow is expected to be $173,000 each year for 10 years. Jensen uses a 12% discount rate in evaluating capital investments. Assume, for simplicity, that MACRS depreciation rules do not apply. Required: Using Excel (including built-in functions for NPV, IRR, and MIRR), compute the following for the above-referenced investment: 1. The payback period, under the assumption that cash inflows occur evenly throughout the year. (Do not round intermediate calculations. Round your final answer to 1 decimal place.) 2. The accounting (book) rate of return based on (a) initial investment, and (b) average investment. (Round your final answers to 1 decimal place.) 3. The net present value (NPV) of the proposed investment under the assumption that cash inflows occur at year-end. (Do not round intermediate calculations. Round your final answer to nearest whole dollar amount.) 4. The present value payback period, in years, of the proposed investment under the assumption that cash inflows occur evenly throughout the year. (Note: because of this assumption, the present value calculations will be approximate, not exact.) To calculate present value amounts, use the appropriate factors from Appendix C, Table 1. (Do not round intermediate calculations. Round your final answer to 1 decimal place.) 5. The internal rate of return (IRR). (Do not round intermediate calculations. Round your final answer to 1 decimal place.) 6. The modified internal rate of return (MIRR). (Do not round intermediate calculations. Round your final answer to 1 decimal place.) (In conjunction with this requirement, you might want to consult either of the following two references: MIRR Function and/or IRR in Excel.)

Answer 1

Answer to question 1

Payback period    = Initial Investment / Net cash flow per period

   = $750,000 / $173,000

Payback period    = 4.3 years

Answer to question 2

Part (a) : Accounting rate of return (ARR) for initial investment

Particulars		Amount ($)
Initial investment	A	750,000
Net cash inflow	B	173,000
ARR	(B/A)	23.1%

Part (b) : Accounting rate of return (ARR) for average investment

Particulars		Amount ($)
Initial investment	A	750,000
Useful life of machine	B	10-years
Depreciation per year	(A/B)=C	75,000
Value of machine at the year end	(A-C)=D	675,000
Average investment value	[(A+D)/2]=E	712,500
Net cash inflow	F	173,000
ARR	(F/E)	24.3%

Answer to question 3

Net present value (NPV) = [Net Cash Flow / (1 + i)ⁿ] - Initial investment

where,

i = Discount rate

n = No. of years

NPV = [$173,000 / (1 + 0.12)¹⁰] - $750,000

= $977,489 - $750,000

NPV = $227,489

Answer to question 4

Present value payback period = Initial investment / Net Present Value

= $750,000 / $227,489

Present value payback period = 3.30 years