Pique Corporation wants to purchase a new machine for $280,000. Management predi
ID: 2535835 • Letter: P
Question
Pique Corporation wants to purchase a new machine for $280,000. Management predicts that the machine can produce sales of $190,000 each year for the next 4 years. Expenses are expected to include direct materials, direct labor, and factory overhead (excluding depreciation) totaling $74,000 per year. The firm uses straight-line depreciation with no residual value for all depreciable assets. Pique's combined income tax rate is 40.00%. Management requires a minimum after-tax rate of return of 10.00% on all investments. What is the approximate internal rate of return (IRR) of the investment? Use Excel IRR function Over 21.76% Somewhere between 16.76% and 21.76% Somewhere between 8.76% and 10.76% Less than 8.76% Somewhere between 11.76% and 16.76% Quip Corporation wants to purchase a new machine for $290,000. Management predicts that the machine will produce sales of $190,000 each year for the next 4 years. Expenses are expected to include direct materials, direct labor, and factory overhead (excluding depreciation) totaling $75,000 per year. The firm uses the straight-line depreciation and expects the machine to have a residual value of $47,000. Quip's combined income tax rate, t, is 40.00%. The required rate of return is 10.00% What is the present value payback in years? 4.01 3.27 3.61 3.81 3.07Explanation / Answer
1.
Thus the answer is " somewhere between 11.76% and 16.76%". (the last option)
Calculations and formula shown below:
2.
From the table we can see that the cumulative PV is becoming positive in the 4th year. Hence payback =
3 years+(57976.71/95826.79(
= 3.61 years
Formulas and calculations:
Year 0 1 2 3 4 1 Initial investment -280,000.00 2 Sales 190,000.00 190,000.00 190,000.00 190,000.00 3 Expenses 74,000.00 74,000.00 74,000.00 74,000.00 4 Depreciation 70,000.00 70,000.00 70,000.00 70,000.00 5 EBIT (2-3-4) 46,000.00 46,000.00 46,000.00 46,000.00 6 Taxes @40% on EBIT 18,400.00 18,400.00 18,400.00 18,400.00 7 Net income (5-6) 27,600.00 27,600.00 27,600.00 27,600.00 Based on this information, the operating cash flows are: Year 0 1 2 3 4 EBIT 46,000.00 46,000.00 46,000.00 46,000.00 Add: Depreciation 70,000.00 70,000.00 70,000.00 70,000.00 less: taxes -18,400.00 -18,400.00 -18,400.00 -18,400.00 Operating cash flow (ebit+depreciation - taxes) 97,600.00 97,600.00 97,600.00 97,600.00 IRR computation: Year 0 1 2 3 4 Relevant cash flow -280,000.00 97,600.00 97,600.00 97,600.00 97,600.00 IRR 14.760725%