Question

NPVs and IRRs for Mutually Exclusive Projects

Davis Industries must choose between a gas-powered and an electric-powered forklift truck for moving materials in its factory. Since 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.

1. Calculate the NPV for each type of truck. Round your answers to the nearest dollar.

   Electric-powered truck	$
   Gas-powered truck	$

2. Calculate the IRR for each type of truck. Round your answers to two decimal places.

   Electric-powered truck	%
   Gas-powered truck	%

   Which type of the truck should the firm purchase?
   -Select-Electric-powered or Gas-powered

Answer 1

a.Electric powered truck

Net present value is solved using a financial calculator. The steps to solve on the financial calculator:

• Press the CF button.
• CF0= -$22,000. It is entered with a negative sign since it is a cash outflow.
• Cash flow for each year should be entered.
• Press Enter and down arrow after inputting each cash flow.
• After entering the last cash flow cash flow, press the NPV button and enter the cost of capital.
• Press enter after that. Press the down arrow and CPT buttons to get the net present value.

Net present value at 12% cost of capital is $3,860.75.

Gas powered truck

Net present value is solved using a financial calculator. The steps to solve on the financial calculator:

• Press the CF button.
• CF0= -$17,230. It is entered with a negative sign since it is a cash outflow.
• Cash flow for each year should be entered.
• Press Enter and down arrow after inputting each cash flow.
• After entering the last cash flow cash flow, press the NPV button and enter the cost of capital.
• Press enter after that. Press the down arrow and CPT buttons to get the net present value.

Net present value at 11% cost of capital is $523.88.

b.Electric powered truck

Internal rate of return is calculated using a financial calculator by inputting the below:

• Press the CF button.
• CF0= -$22,000. It is entered with a negative sign since it is a cash outflow.
• Cash flow for each year should be entered.
• Press Enter and down arrow after inputting each cash flow.
• After entering the last cash flow cash flow, press the IRR button and CPT keys to get the IRR of the project.

The IRR is 17.9999% 18%.

Gas powered truck

Internal rate of return is calculated using a financial calculator by inputting the below:

• Press the CF button.
• CF0= -$102 It is entered with a negative sign since it is a cash outflow.
• Cash flow for each year should be entered.
• Press Enter and down arrow after inputting each cash flow.
• After entering the last cash flow cash flow, press the IRR button and CPT keys to get the IRR of the project.

The IRR is 13.20%.

The firm should purchase the electric powered truck since it has the higher net present value.

In case of any query, kindly comment on the solution