A computer call center is going to replace all of its incandescent lamps with mo

Question

A computer call center is going to replace all of its incandescent lamps with more energy-efficient fluorescent lighting fixtures. The total energy saving are estimated to be $1,875 per year, and the cost of purchasing and installing the fluorescent fixtures is $4,900. The study period is five years, and terminal market values for the fixtures are negligible.

a. What is the IRR of this investment?
b. What is the simple payback period of the investment?
c. Is there a conflict in the answers Parts (a) and (b)? List your assumptions.
d. The simple payback "rate of return" is 1/. How close does this metric come to matching your answer in Part(a)?

Explanation / Answer

a. Yr Cash Flow 0 -4900 1 1875 2 1875 3 1875 4 1875 5 1875 Discount the cash flow of each year by rate r% and see which rate makes the total cash flow zero. This is the IRR. In this case, IRR is 25%. b. Payback period = 4900/1875=2.61 years c. IRR gives rate in % which payback period gives number of years. Payback period is a non-discounted flow while IRR is a discounted method. d. Payback rate of return based on this formula is 1/2.61=38%, which is different from answer in (a). This is because discounted rate methods cannot be compared to non-discounted rate methods.

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