Cousin\'s Salted Snack Company is considering two possible investments: a delive
ID: 2471385 • Letter: C
Question
Cousin's Salted Snack Company is considering two possible investments: a delivery truck or a bagging machine. The delivery truck would cost $31,106.40 and could be used to deliver an additional 52,000 bags of pretzels per year. Each bag of pretzels can be sold for a contribution margin of $0.38. The delivery truck operating expenses, excluding depreciation, are $0.52 per mile for 18,000 miles per year. The bagging machine would replace an old bagging machine, and its net investment cost would be $47,385.00. The new machine would require three fewer hours of direct labor per day. Direct labor is $15 per hour. There are 250 operating days in the year. Both the truck and the bagging machine are estimated to have five-year lives. The minimum rate of return is 19%. However, Cousin's has funds to invest in only one of the projects.
a. Compute the internal rate of return for each investment. Use the above table of present value of an annuity of $1. If required, round your present value factor answers to three decimal places and internal rate of return to the nearest percent.
Present Value of an Annuity of $1 at Compound Interest Year 6% 10% 12% 15% 20% 1 0.943 0.909 0.893 0.870 0.833 2 1.833 1.736 1.690 1.626 1.528 3 2.673 2.487 2.402 2.283 2.106 4 3.465 3.170 3.037 2.855 2.589 5 4.212 3.791 3.605 3.352 2.991 6 4.917 4.355 4.111 3.784 3.326 7 5.582 4.868 4.564 4.160 3.605 8 6.210 5.335 4.968 4.487 3.837 9 6.802 5.759 5.328 4.772 4.031 10 7.360 6.145 5.650 5.019 4.192Explanation / Answer
IRR is the discount rate at which NPV of the project will be zero.
Truck:
Operating profit = 52000 x $0.38 = $19760
Cost of operating the truck (except depreciation) = 18000 * $0.52 = $9360
Net cash flow = $19760 - $9360 = $10400
NPV at 15%
= -$31106.40 + $10400 x PVIFA (15%, 5)
= - $31106.40 + $10400 x 3.353
= $3764.80
NPV at 25%
= -$31106.40 + $10400 x PVIFA (25%, 5)
= - $31106.40 + $10400 x 2.69
= -3130.40
R = 15% + 10% * ((0-3764.8)/(-3130.40-3764.8)) = 20.46%
bagging machine
cash flow = 3 hours/dya x 250 hours x $15/hour = $11250
NPV at 15%
= - 47385 + $11250 x PVIFA(15%, 5)
= - 47385 + $11250 x 3.353
= -9663.75
NPV at 5%
= - 47385 + $11250 x PVIFA(5%, 5)
= - 47385 + $11250 x 4.33
= $1327.50
R = 5% + 10% * ((0-1327.50)/(-9663.75-1327.50)) = 6.21%
Rate NPV 15% 3764.8 R 0 25% -3130.4