In: Accounting
Average Rate of Return Method, Net Present Value Method, and analysis for a Service Company
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 | $ 61,400 | $135,000 | $ 34,400 | $108,000 | ||||
2 | 51,400 | 125,000 | 34,400 | 108,000 | ||||
3 | 36,400 | 110,000 | 34,400 | 108,000 | ||||
4 | 26,400 | 100,000 | 34,400 | 108,000 | ||||
5 | (3,600) | 70,000 | 34,400 | 108,000 | ||||
Total | $172,000 | $540,000 | $172,000 | $540,000 |
Each project requires an investment of $368,000. Straight-line depreciation will be used, and no residual value is expected. The committee has selected a rate of 15% 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. If required, round to the nearest dollar.
Warehouse | Tracking Technology | |
Present value of net cash flow total | $ | $ |
Amount to be invested | $ | $ |
Net present value | $ | $ |
2. The net present value exceeds the selected rate established for discounted cash flows (15%), while the does not. Thus, considering only quantitative factors, the investment should be selected.