Gemini is looking to make a $125,000 investment in a motor. The motor has a 5...

Gemini is looking to make a $125,000 investment in a motor. The motor has a 5 year expected life and no terminal disposal value. Management believes the new motor will yield $35,000 in annual savings in cash operating costs. Gemini’s required rate of return is 10% and their tax rate is 30%.
1. Determine the net present value, payback period, discounted payback period, and internal rate of return for this investment.
2. Should Gemini make this investment? Why or why not?

Solutions

Expert Solution

NPV
Annual savings		35000
Less: Depreciation (125000/5)		25000
Savings after dep		10000
Less: Tax @30%		3000
Income aftere tax		7000
Add: Depreciation		25000
Annual cash inflows		32000
Annuity factor f or 5 years at 10%		3.7908
Present value of Inflows		121305.6
Less: Initial Investment		125000
Net present value		-3694.4

Payback period: Initial Investment / Annual cash inflows
	125000/32000 = 3.91 years

Discounted payback period:
As NPV above is negative, the project is not ableto recover its investment within 5 years.

IRR:
Discount at 8.85%
Annual cash inflows		32000
Annuity factor f or 5 years at 8.85%		3.9048
Present value of Inflows		124953.6
Less: Initial Investment		125000
Net present value		-46.4

IRR: 8.85% approx

ekkarill92 answered 1 year ago

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