Question

Henrie’s Drapery Service is investigating the purchase of a new machine for cleaning and blocking drapes. The machine would cost $151,640, including freight and installation. Henrie’s estimated the new machine would increase the company’s cash inflows, net of expenses, by $40,000 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. What is the machine’s internal rate of return? (Round your answer to whole decimal place i.e. 0.123 should be considered as 12%.)

2. Using a discount rate of 10%, what is the machine’s net present value? Interpret your results.

3. Suppose the new machine would increase the company’s annual cash inflows, net of expenses, by only $36,000 per year. Under these conditions, what is the internal rate of return?

Answer 1

1
Investment cost	151640
Divide by Annual cash inflows	40000
PV factor for Internal rate of return	3.791
The PV factor 3.791 for years is closest to 10%
Internal rate of return = 10%
2
Present value of Annual cash inflows	151640	=40000*3.791
Less: Investment cost	-151640
Net present value	0
3
Investment cost	151640
Divide by Annual cash inflows	36000
PV factor for Internal rate of return	4.212
The PV factor 4.212 for years is closest to 6%
Internal rate of return = 6%