Question

Davis Industries must choose between a gas-powered and an electric-powered forklift truck for moving materials in...

Davis Industries must choose between a gas-powered and an electric-powered forklift truck for moving materials in its factory. Because both forklifts perform the same function, the firm will choose only one. (They are mutually exclusive investments.) The electric-powered truck will cost more, but it will be less expensive to operate; it will cost $22,000, whereas the gas-powered truck will cost $17,500. The cost of capital that applies to both investments is 12%. The life for both types of truck is estimated to be 6 years, during which time the net cash flows for the electric-powered truck will be $6,290 per year and those for the gas-powered truck will be $5,000 per year. Annual net cash flows include depreciation expenses.

  1. Calculate the NPV for each type of truck. Do not round intermediate calculations. Round your answers to the nearest dollar.

    Electric-powered forklift truck: $  

    Gas-powered forklift truck: $  

  2. Calculate the IRR for each type of truck. Do not round intermediate calculations. Round your answers to two decimal places.

    Electric-powered forklift truck:   %

    Gas-powered forklift truck:   %

    Which type of the truck should the firm purchase?
    The firm should purchase -Select-electric-poweredgas-poweredItem 5 forklift truck.

Homework Answers

Answer #1

Discount Factor = 1/(1+cost of capital)^Year = 1/(1.12)^Year

PV = Cash flow * Discount Factor

NPV = Sum of all PV of future cash flow

Electric Truck
Year Cash Flow Discount Factor Present Value
0 -22000 -22000
1 6290 0.892857143 5616.071429
2 6290 0.797193878 5014.34949
3 6290 0.711780248 4477.097759
4 6290 0.635518078 3997.408713
5 6290 0.567426856 3569.114922
6 6290 0.506631121 3186.709752
NPV 3860.752065
Gas-powered
Year Cash Flow Discount Factor Present Value
0 -17500 -17500
1 5000 0.892857143 4464.285714
2 5000 0.797193878 3985.969388
3 5000 0.711780248 3558.901239
4 5000 0.635518078 3177.590392
5 5000 0.567426856 2837.134279
6 5000 0.506631121 2533.155606
NPV 3057.036618

IRR is the rate where NPV = 0

For Electric truck,

=> 0 = -22000 + 6290/(1+k) + 6290(1+k)^2 + 6290(1+k)^3+ 6290(1+k)^4 + 6290(1+k)^5 + 6290(1+k)^6

=> k = 18%

For gas truck,

=> 0 = -17500 + 5000(1+k) + 5000/(1+k)^2 + 5000/(1+k)^3 + 5000/(1+k)^4 + 5000/(1+k)^5 +5000/(1+k)^6

=> k = 17.9733% or 17.97%

The values of IRR is done by hit and trial methord or by using IRR function in excel

The firm should purchase Electric Truck as it has more NPV than the gas powered truck.

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