Derrick Iverson is a divisional manager for Holston Company. His annual pay rais
ID: 2491744 • Letter: D
Question
Derrick Iverson is a divisional manager for Holston Company. His annual pay raises are largely determined by his division’s return on investment (ROI), which has been above 20% each of the last three years. Derrick is considering a capital budgeting project that would require a $4,160,000 investment in equipment with a useful life of five years and no salvage value. Holston Company’s discount rate is 19%. The project would provide net operating income each year for five years as follows:
Compute the project's net present value. (Round discount factor(s) to 3 decimal places, intermediate calculations and final answer to the nearest dollar amount.)
Compute the project's simple rate of return. (Round your answer to 1 decimal place. i.e. 0.123 should be considered as 12.3%.)
Derrick Iverson is a divisional manager for Holston Company. His annual pay raises are largely determined by his division’s return on investment (ROI), which has been above 20% each of the last three years. Derrick is considering a capital budgeting project that would require a $4,160,000 investment in equipment with a useful life of five years and no salvage value. Holston Company’s discount rate is 19%. The project would provide net operating income each year for five years as follows:
Sales $ 3,700,000 Variable expenses 1,600,000 Contribution margin 2,100,000 Fixed expenses: Advertising, salaries, and other fixed
out-of-pocket costs $710,000 Depreciation 710,000 Total fixed expenses 1,420,000 Net operating income $ 680,000 Required: 1.
Compute the project's net present value. (Round discount factor(s) to 3 decimal places, intermediate calculations and final answer to the nearest dollar amount.)
2.Compute the project's simple rate of return. (Round your answer to 1 decimal place. i.e. 0.123 should be considered as 12.3%.)
3-a. Would the company want Derrick to pursue this investment opportunity? Yes No 3-b. Would Derrick be inclined to pursue this investment opportunity? Yes NoExplanation / Answer
Answer:1 Calculation of NPV
Answer:(2) Simple rate of Return=Annual incremental net income/Intial investment
=$680000/$4160000
=16.4%
Answer :3-a
Yes, The company would want Derrick to pursue the investment opportunity because it has a positive net present value of $90112.497
Answer:3-b No,
Derrick might be inclined to reject the opportunity because its simple rate of return of 16.4% is well below his historical return on investment (ROI) of 20%. Derrick may be justifiably concerned that implementing this project would lower his ROI and his next pay raise.
Discount rate 19% Year Cash Flows ($) 0 -4160000 1 1390000 2 1390000 3 1390000 4 1390000 5 1390000 NPV 90112.497Related Questions
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