Question

10. 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. Calculate the NPV and IRR for each type of truck, and decide which to recommend. Do not round intermediate calculations. Round the monetary values to the nearest dollar and percentage values to two decimal places.

	Electric-powered forklift truck		Gas-powered forklift truck
NPV	$__		$ __
IRR	__ %		__%

The firm should purchase (select one) electric-powered or gas-powered forklift truck?

Answer 1

Calculation of NPV of Electric Powered Forklift Truck

Net Present Value = Present Value of Cash Inflow - Present value of Cash Outflow

Given ,

Present value of Cash Outflow = 22,000

Present value of Cash inflow = Annual Net cash Flows * PVAF @ 12% for 6 years

= 6290 * 4.11140732344

= 25860.7520644 or 25860.75

Net Present Value = 25860.75 - 22,000

= 3860.75

Calculation of IRR of Electric Powered Forklift Truck

RR is rate where PV of cash inflow is equal to PV of cash outflow.

IRR is calculated by Hit & Trial Method.

Lets assume two rates @17% & 19% for purpose of calculation of NPV.

Calculation of Net Present Value @ 17%

Net Present Value = Present Value of Cash Inflow - Present value of Cash Outflow

Given ,

Present value of Cash Outflow = 22,000

Present value of Cash inflow = Annual Net cash Flows * PVAF @ 17% for 6 years

= 6290 * 3.5891847544

= 22575.9721051 or 22575.97

Net Present Value = 22575.9721051 - 22,000

= 575.9721051

Calculation of Net Present Value @ 19%

Net Present Value = Present Value of Cash Inflow - Present value of Cash Outflow

Given ,

Present value of Cash Outflow = 22,000

Present value of Cash inflow = Annual Net cash Flows * PVAF @ 19% for 6 years

= 6290 * 3.40977721826

= 21447.4987028 or 21447.50

Net Present Value = 21447.4987028 - 22,000

= (552.5012972)

By Interpolation,

IRR = Lower Rate + Lower Rate NPV /(Lower Rate NPV - Higher Rate NPV) * Difference in Rate

where,

Lower Rate = 17%

Lower Rate NPV = 575.9721051

Higher Rate NPV = (552.5012972)

Difference in Rate = 2% (19%-17%)

IRR = 17% + 575.9721051 /[(575.9721051 - (552.5012972)]* 2%

=18.02%

Calculation of NPV of Gas Powered Forklift Truck

Net Present Value = Present Value of Cash Inflow - Present value of Cash Outflow

Given ,

Present value of Cash Outflow = 17500

Present value of Cash inflow = Annual Net cash Flows * PVAF @ 12% for 6 years

= 5000 * 4.11140732344

= 20557.0366172 or 20557.04

Net Present Value = 20557.04 - 17500

= 3057.04

Calculation of IRR of Gas Powered Forklift Truck

IRR is rate where PV of cash inflow is equal to PV of cash outflow.

IRR is calculated by Hit & Trial Method.

Calculation of Net Present Value @ 17%

Net Present Value = Present Value of Cash Inflow - Present value of Cash Outflow

Given ,

Present value of Cash Outflow =17500

Present value of Cash inflow = Annual Net cash Flows * PVAF @ 17% for 6 years

= 5000 * 3.5891847544

= 17945.923772

Net Present Value = 17945.923772 - 17500

= 445.923772

Calculation of Net Present Value @ 19%

Net Present Value = Present Value of Cash Inflow - Present value of Cash Outflow

Given ,

Present value of Cash Outflow = 17500

Present value of Cash inflow = Annual Net cash Flows * PVAF @ 19% for 6 years

= 5000 * 3.40977721826

= 17048.8860913

Net Present Value = 17048.8860913 - 17500

= (451.1139087)

By Interpolation,

IRR = Lower Rate + Lower Rate NPV /(Lower Rate NPV - Higher Rate NPV) * Difference in Rate

where,

Lower Rate = 17%

Lower Rate NPV = 445.923772

Higher Rate NPV = (451.1139087)

Difference in Rate = 2% (19%-17%)

IRR = 17% + 445.923772 /[(445.923772 - (451.1139087)]* 2%

=17.99%

The firm should purchase Electric Powered Truck since it has higher NPV as well as Higher IRR