Question

Average Rate of Return Method, Net Present Value Method, and Analysis

The capital investment committee of Ellis Transport and Storage Inc. is considering two investment projects. The estimated income from operations and net cash flows from each investment are as follows:

	Warehouse					Tracking Technology
Year	Income from Operations		Net Cash Flow			Income from Operations		Net Cash Flow
1	$44,100		$145,000			$93,000		$232,000
2	44,100		145,000			71,000		196,000
3	44,100		145,000			35,000		138,000
4	44,100		145,000			15,000		94,000
5	44,100		145,000			6,500		65,000
Total	$220,500		$725,000			$220,500		$725,000

Each project requires an investment of $420,000. Straight-line depreciation will be used, and no residual value is expected. The committee has selected a rate of 10% for purposes of the net present value analysis.

Present Value of $1 at Compound Interest
Year	6%	10%	12%	15%	20%
1	0.943	0.909	0.893	0.870	0.833
2	0.890	0.826	0.797	0.756	0.694
3	0.840	0.751	0.712	0.658	0.579
4	0.792	0.683	0.636	0.572	0.482
5	0.747	0.621	0.567	0.497	0.402
6	0.705	0.564	0.507	0.432	0.335
7	0.665	0.513	0.452	0.376	0.279
8	0.627	0.467	0.404	0.327	0.233
9	0.592	0.424	0.361	0.284	0.194
10	0.558	0.386	0.322	0.247	0.162

Required:

1a. Compute the average rate of return for each investment. If required, round your answer to one decimal place.

	Average Rate of Return
Warehouse	%
Tracking Technology	%

1b. Compute the net present value for each investment. Use the present value of $1 table above. If required, use the minus sign to indicate a negative net present value.

	Warehouse	Tracking Technology
Present value of net cash flow total	$	$
Less amount to be invested	$	$
Net present value	$	$

2. The warehouse has a smaller  net present value as tracking technology cash flows occur earlier  in time. Thus, if only one of the two projects can be accepted, the tracking technology  would be the more attractive.

Answer 1

		Warehouse		Tracking Technology
	Year	Income from	Net Cash	Income from	Net Cash		Net cash flow * Present value factor
		Operations	Flow	Operations	Flow	Present value @10% factor	Warehouse	Tracking
	1	$44,100	$145,000	$93,000	$232,000	0.909	$131,805	$210,888
	2	44,100	145,000	71,000	196,000	0.826	$119,770	$161,896
	3	44,100	145,000	35,000	138,000	0.751	$108,895	$103,638
	4	44,100	145,000	15,000	94,000	0.683	$99,035	$64,202
	5	44,100	145,000	6,500	65,000	0.621	$90,045	$40,365
	Total	$220,500	$725,000	$220,500	$725,000		$549,550	$580,989
	Average Income	$44,100		$44,100
	Initial Investment	420,000		420,000			-420,000	-420,000
1(a)	Particulars	Average Rate of Return
	Warehouse	10.5%
	Tracking Technology	10.5%
1(b)	Particulars	Warehouse	Tracking Technology
	Present value of net cash flow total	$549,550	$580,989
	Less amount to be invested	420,000	420,000
	Net present value	$129,550	$160,989
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