Problem6 Consider the following three (mutually exclusive) capital investment al

Question

Problem6 Consider the following three (mutually exclusive) capital investment alternatives to answer Questions A through B below. Assume that all and use a 13% minimum attractive rate of return (MARR) n your calculation. alternative have the same useful life of 6 yars Alternative Initial Cost Annual Uniform Benefits $14,000 5,000 $775 $ 2,907 Value 3,000 A. Compute the rate of return on investment (RORA) for Altermative A? (5 Points) (5 Points) B. What is the rate of return on investment (RORB) for Alternative B? C. What incremental rate of return (ARORa-A)is achieved if Alternative B is preferred over (6 Points) Alternative A?

Explanation / Answer

Rate of return for A:
0=-5000+775/(1+IRR)+775/(1+IRR)^2+775/(1+IRR)^3+775/(1+IRR)^4+775/(1+IRR)^5+775/(1+IRR)^6+5000/(1+IRR)^6
IRR=15.50%

Rate of return for B:
0=-11000+2907/(1+IRR)+2907/(1+IRR)^2+2907/(1+IRR)^3+2907/(1+IRR)^4+2907/(1+IRR)^5+2907/(1+IRR)^6+0/(1+IRR)^6
IRR=15.01%

Incremental Rate of return of B over A:
0=-6000+(2907-775)/(1+IRR)+(2907-775)/(1+IRR)^2+(2907-775)/(1+IRR)^3+(2907-775)/(1+IRR)^4+(2907-775)/(1+IRR)^5+(2907-775)/(1+IRR)^6-5000/(1+IRR)^6
IRR=14.12% hence B will be preferred over A as incremental IRR is more than MARR

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