Question

In: Finance

You are in search of a new vehicle. However, you are not sure if you want...

You are in search of a new vehicle. However, you are not sure if you want a fully electric vehicle or a hybrid vehicle compared to a conventional gas-powered vehicle. Since you are learning about Engineering Management, NPV, etc., you want to determine which vehicle investment will have the greatest ROI, so you can make your decision.

In order to simplify the problem, you are considering the gas-powered vehicle as a baseline and comparing both a hybrid and a fully electric vehicle to it. Additionally, you expect to keep the vehicle for six years. Below is some information about each vehicle to help you calculate the incremental ROI. Your response to this question should include incremental ROI for both investing in a hybrid and a fully electric vehicle. Thereafter, based on the calculations you should determine which vehicle would you purchase.

Note: Use only the information provided in this problem and do not include any external information. You are only considering purchasing and not leasing.

Assume following costs for gas-powered vehicle: Purchase price $38,000; Annual gasoline expenses $2,000 for each of 5 years; Annual insurance expenses $1200 for each of 5 years; Annual maintenance $750 for each of 5 years. No other costs will be incurred.

Assume the following for hybrid vehicle: Purchase price $40,000; Annual gasoline expenses $1,200 for each of 5 years; Annual insurance $1400 for each of 5 years; Annual maintenance $600 for each of 5 years.

Assume the following for electric vehicle: Purchase price $48,000; No annual gasoline expenses, but you expect to incur $800 in electric expenses for each of 5 years; Annual insurance expenses $1500 for each of 5 years; Annual maintenance $200 for each of 5 years.

Hint: The question is about incremental ROI. Also, assume you are in a market for and need a vehicle.

Expert Solution

Calculation of Cash Flows for gas powered vehicle:

Year	Gasoline	Insurance	Maintenance	Cash Outflow
0				38000
1	2000	1200	750	3950
2	2000	1200	750	3950
3	2000	1200	750	3950
4	2000	1200	750	3950
5	2000	1200	750	3950

.

Calculation of Cash Flows for hybrid vehicle & incremental outflow and savings :

Year	Gasoline	Insurance	Maintenance	Cash Outflow	Cash Outflow	Incremental Cashflows	Remarks
0				40000	38000	2000	Incremental Outflow
1	1200	1400	600	3200	3950	-750	Incremental Savings
2	1200	1400	600	3200	3950	-750	Incremental Savings
3	1200	1400	600	3200	3950	-750	Incremental Savings
4	1200	1400	600	3200	3950	-750	Incremental Savings
5	1200	1400	600	3200	3950	-750	Incremental Savings

Total incremental savings from hybrid vehicle = 750*5 = $3,750

Incremental outflow from Hybrid Vehicle = $2,000

No of years = 5 years

Net benefit per year = (3750-2000)/5 = $350

ROI = Net benefit per year/ Incremental outflow from Hybrid Vehicle

= 350/2000 * 100

= 17.5%

.

Calculation of Cash Flows for electric vehicle & incremental outflow and savings :

Year	Electric	Insurance	Maintenance	Cash Outflow	Cash Outflow	Incremental Cashflows	Remarks
0				48000	38000	10000	Incremental Outflow
1	800	1500	200	2500	3950	-1450	Incremental Savings
2	800	1500	200	2500	3950	-1450	Incremental Savings
3	800	1500	200	2500	3950	-1450	Incremental Savings
4	800	1500	200	2500	3950	-1450	Incremental Savings
5	800	1500	200	2500	3950	-1450	Incremental Savings

Total incremental savings from electric vehicle = 1450*5 = $7,250

Incremental outflow from Hybrid Vehicle = $10,000

No of years = 5 years

Net benefit per year = (7,250-10,000)/5 = -$550

ROI = Net benefit per year/ Incremental outflow from Hybrid Vehicle

= -550/10,000 * 100

= -5.5%

.

Conclusion:

Based on ROI , we should purchase hybrid Vehicle since it has a ROI of 17.5% as compared to Electric Vehicle which has a negative ROI of -5.5%.

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