Question

Henrie’s Drapery Service is investigating the purchase of a new machine for cleaning and blocking drapes. The machine would cost $126,175, including freight and installation. Henrie’s has estimated that the new machine would increase the company’s cash inflows, net of expenses, by $35,000 per year. The machine would have a five-year useful life and no salvage value.

  

Click here to view Exhibit 13B-1 and Exhibit 13B-2, to determine the appropriate discount factor(s) using table.

  

Required:

1.	Compute the machine’s internal rate of return to the nearest whole percent. Internal Rate of Return Choose Numerator: / Choose Denominator: = Factor Number of Years Internal Rate of Return Investment required / Annual net cash inflow = Factor / = %

2.	Compute the machine’s net present value. Use a discount rate of 12%. (Any cash outflows should be indicated by a minus sign. Round discount factor(s) to 3 decimal places.) Now 1 2 3 4 5 Purchase of machine Annual cash inflows Total cash flows Discount factor (12%) Present value Net present value

3.

Suppose that the new machine would increase the company’s annual cash inflows, net of expenses, by only $32,435 per year. Under these conditions, the internal rate of return to the nearest whole percent. Internal Rate of Return Choose Numerator: / Choose Denominator: = Factor Number of Years Internal Rate of Return Investment required / Annual net cash inflow = Factor / = %

Answer 1

Compute the IRR as shown below: Choose NumeratorChoose DenominatorFactor Number of vears Internal rate of return Investment required Annual Cash InflowFactor S126,175/ S35,0003.6050 12% After computing factor check the PVAF to the closest to 3.605 for 5 years. The PVAF at 12% is closest to 3.605 as shown below: Year PV @ 12% 0.893 0.797 0.712 0.636 0.567 3.605 4 Total 2 Compute the machine's net present value using the discount rate of 12% as shown below: Now 4 Purchase of machine -126175.00 Annual cash flow Total cash flow Discount factor (12%) Present Value Net present value 35,000 $35,000 $35,000 $35,000 $35,000 126175.00 1 0.892857 0.797194 0.71178 0.635518 0.567427 -126175 31250 27901.79 24912.31 22243.13 19859.94 7.832918 As the IRR is rounded to the nearest whole percentage there is a slight difference in the net cash flows. It should be noted that at IRR the net present value should always be zero

3) Compute the IRR as shown below: Choose Numerator Choose DenominatorFactor Number of years Internal rate of return Investment requiredAnnua Cash InflowFactor S126,175 / S32,4353.8901 9% After computing factor check the PVAF to the closest to 3.890 for 5 years. The PVAF at 990 is closest to 3.890 as shown below: Year pV @ 9% 0.917 0.842 0.708 0.650 3.890 4 Total