Exercise 12-9 Net Present Value Analysis and Simple Rate of Return [LO12-2, LO12-6]

Derrick Iverson is a divisional manager for Holston Company. His annual pay raises are largely determined by his divisions return on investment (ROI), which has been above 25% each of the last three years. Derrick is considering a capital budgeting project that would require a $5,150,000 investment in equipment with a useful life of five years and no salvage value. Holston Companys discount rate is 17%. The project would provide net operating income each year for five years as follows:

Sales			$	4,300,000
Variable expenses				1,900,000
Contribution margin				2,400,000
Fixed expenses:
Advertising, salaries, and other fixed out-of-pocket costs	$	765,000
Depreciation		1,030,000
Total fixed expenses				1,795,000
Net operating income			$	605,000

Click here to view Exhibit 12B-1 and Exhibit 12B-2, to determine the appropriate discount factor(s) using tables.

Required:

1. Compute the project's net present value. ??

2. Compute the project's simple rate of return. 11.7%

3a. Would the company want Derrick to pursue this investment opportunity? Yes

3b. Would Derrick be inclined to pursue this investment opportunity? No