core: 0 of 5 pts 4 of 8 (1 complete) HW Score: 12.5%, 5 of 40 pt 10-15 (similar

Question

core: 0 of 5 pts 4 of 8 (1 complete) HW Score: 12.5%, 5 of 40 pt 10-15 (similar to) Question Help Internal rate of return Peace of Mind, Inc. (PMI) sells extended warranties for durable consumer goods such as washing machines and refrigerators. When PMI sells an extended warranty, it receives cash up front from the customer, but later PMI must cover any repair costs that arise. An analyst working for PMI is considering a warranty for a new line of big-screen TVs. A consumer who purchases the 2-year warranty will pay PMI $204. On average, the repair costs that PMI must cover will average $104 for each for the warranty's 2 years. If PMI has a cost of capital of 5%, should it offer this warranty for sale? The internal rate of return (IRR) for this project is 1.3 %. (Round to two decimal places.) The NPV of this project is $ (Round to two decimal places.) nter your answer in the answer box and then click Check Answer. part Clear All Check Answer

Explanation / Answer

Net present value of warranty contract = sum of present value of revenue from warranty - sum of present value of warranty expense

NPV = 204-193.3787 = 10.62132

sum of present value of revenue from warranty at 5% = 204

sum of present value of warranty expense = annual warranty expense*PVAF at 5% for 2 years

104*1.85941 = 193.3787

PVAF at 5% for 2 years =1-(1+r)^-n/r =1-(1.05)^-2 /.05 =1.85941

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