Question

Chemco Enterprises is the manufacturer of Ultra-Dry, a hydrophobic coating that will waterproof anything. Over a 5-year period, the costs associated with the pilot test product line were as follows: first cost of $42,000 and annual costs of $18,000. Annual revenue was $27,000 and used equipment was salvaged for $4,000. What rate of return did the company make on this product?

The rate of return the company made on the product is ____________ %.

Answer 1

Ans: 5.08%

Explanation:

Given,

Initial cost (P) = 42,000

Net annual revenue (A) = 27,000 - 18,000 = 9,000

Salvage value (F) = 4,000

n = 5

Rate of return is the interest rate at which present worth of the cash flows is equal to zero.

Let, i = 5%

PW(5%) = - 42,000 + 9,000(P/A, 5%, 5) + 4,000(P/F, 5%, 5)

                = - 42,000 + 9,000(4.329) + 4,000(0.7835)

                = -42,000 + 38,961 + 3,134

               = 95

Let, i = 7%

PW(7%) = - 42,000 + 9,000(P/A, 7%, 5) + 4,000(P/F, 7%, 5)

                = - 42,000 + 9,000(4.100) + 4,000(0.7130)

                = -42,000 + 36,900+ 2,852

               = -2,248

By interpolation,

i = 5% + [(95 - 0) / (95 - (-2,248)] * (7% - 5%)

= 0.05 + (95 / 2,343) * 0.02

= 0.0508 or 5.08%

Thus, the rate of return the company made on the product is 5.08%.