Exercise 13-15 Internal Rate of Return and Net Present Value [LO13-2, LO13-3] He

Question

Exercise 13-15 Internal Rate of Return and Net Present Value [LO13-2, LO13-3] Henrie's Drapery Service is investigating the purchase of a new machine for cleaning and blocking drapes. The machine would cost $137,280, including freight and installation. Henrie's has estimated that the new machine would increase the company's cash inflows, net of expenses, by $40,000 per year The machine would have a five-year useful life and no salvage value. Click here to view Exhibit 138-1 and Exhibit 13B-2, to determine the appropriate discount factoris) using table. Required: 1. Compute the machine's internal rate of return to the nearest whole percent. nal Rate of Return Choose Choose Number of Internal Rate of Factor Factor 2. Compute the machine's net present value. Use a discount rate of 14%. 3. Suppose that the new machine would increase the company's annual cash inflows, net of expenses, by only $37,150 per year. Under these conditions, compute the intemal rate of return to the nearest whole percent. Rate of Return Choose Choose Number of Internal Rate of Factor Factor

Explanation / Answer

1). Internal rate of return is rate where the Net Present Value of the project is zero.
Here Initial investment = 137280
Annual cash inflows = 40000
Factor for IRR = 137280/40000 = 3.432
Check PVAF table for this value at 5 years, It corresponds to 14%, Hence IRR is 14%

2). NPV at 14%
NPV = 40000 * 3.433 - 137280 = 137320-137280= 40

3). If annual cash inflows are only $37150 , then IRR will be:
Factor for IRR = 137280/37150 = 3.695
Checking PVAF table for this factor at 5 years will corresponds to 11%. Thus IRR will be 11%

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