1. (Ignore income taxes in this problem.) Henscheid Roofing is considering the p

Question

1. (Ignore income taxes in this problem.) Henscheid Roofing is considering the purchase of a crane that would cost $136,040, would have a useful life of 9 years, and would have no salvage value. The use of the crane would result in labor savings of $20,000 per year. The internal rate of return on the investment in the crane is closest to:

Click here to view Exhibit 8B-1 and Exhibit 8B-2 to determine the appropriate discount factor(s) using tables.

A. 7%

B. 4%

C. 6%

D. 9%

2. (Ignore income taxes in this problem.) Tangen Corporation is considering the purchase of a machine that would cost $393,000 and would last for 6 years. At the end of 6 years, the machine would have a salvage value of $86,500. By reducing labor and other operating costs, the machine would provide annual cost savings of $105,300. The company requires a minimum pretax return of 14% on all investment projects. The net present value of the proposed project is closest to:

Click here to view Exhibit 8B-1 and Exhibit 8B-2 to determine the appropriate discount factor(s) using tables.

A. $103,012

B. $16,512

C. $22,932

D. $55,956

Explanation / Answer

Solution:

1)

Internal Rate of Return is the discounting rate at which Net Present Value become ZERO.

In other words, at Internal Rate of Return, Present Value of Cash Inflows and Present Value of Cash Outflows are equal to each other.

Life of the Crane = 9 years

Present Value of Cash Outflow = $136,040

Present Value ordinary annuity factor at R rate (Internal Rate of Return) for 9 periods = $136,040 / Annual Saving $20,000

= 6.802

Looking to the Present Value Ordinary Annuity table at 9 years, we get the Discounting Rate 6%

In other words, at 6% discounting rate, we get the Ordinary annuity value for 9 period = 6.802

Hence, the Internal Rate of Return on the investment in the crane is closest to C. 6%

The correct option is C. 6%

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