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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 25% 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) $ 340,000 $ 540,000
Annual revenues and costs:
Sales revenues $ 390,000 $ 490,000
Variable expenses $ 176,000 $ 226,000
Depreciation expense $ 48,000 $ 90,000
Fixed out-of-pocket operating costs $ 84,000 $ 68,000

The companys discount rate is 18%.

Click here to view Exhibit 13B-1 and Exhibit 13B-2, to determine the appropriate discount factor using tables.

Required:

1.

Calculate the payback period for each product. (Round your answers to 2 decimal places.)

Product A:

Product B:

2.

Calculate the net present value for each product. (Round discount factor(s) to 3 decimal places.)

Product A:

Product B:

3.

Calculate the internal rate of return for each product. (Round percentage answer to 1 decimal place. i.e. 0.1234 should be considered as 12.3% and Round discount factor(s) to 3 decimal places.)

Product A:

Product B:

4.

Calculate the project profitability index for each product. (Round discount factor(s) to 3 decimal places. Round your answers to 2 decimal places.)

Product A:

Product B:

5.

Calculate the simple rate of return for each product. (Round percentage answer to 1 decimal place. i.e. 0.1234 should be considered as 12.3%.)

Product A:

Product B:

6a.

For each measure, identify whether Product A or Product B is preferred.

NPV: PROFITABILITY INDEX:

PAYBACK PERIOD:

IRR:

6b.

Based on the simple rate of return, Lou Barlow would likely:

multiple choice
  • Accept Product A

  • Accept Product B

  • Reject both products

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