Question
Lou Barlow, a divisional manager for Sage Company, has an opportunity to manufacture and sell one of two new products for a five-year period. His
Lou Barlow, a divisional manager for Sage Company, has an opportunity to manufacture and sell one of two new products for a five-year period. His annual pay raises are determined by his divisions return on investment (ROI), which has exceeded 23% each of the last three years. He has computed the cost and revenue estimates for each product as follows:
Product A | Product B | ||||
Initial investment: | |||||
Cost of equipment (zero salvage value) | $ | 280,000 | $ | 480,000 | |
Annual revenues and costs: | |||||
Sales revenues | $ | 330,000 | $ | 430,000 | |
Variable expenses | $ | 152,000 | $ | 202,000 | |
Depreciation expense | $ | 56,000 | $ | 96,000 | |
Fixed out-of-pocket operating costs | $ | 78,000 | $ | 60,000 | |
The companys discount rate is 14%.
Click here to view Exhibit 13B-1 and Exhibit 13B-2, to determine the appropriate discount factor using tables.
5. Calculate the simple rate of return for each product.
6a. For each measure, identify whether Product A or Product B is preferred.
6b. Based on the simple rate of return, Lou Barlow would likely:
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