Payback Period and NPV of a Cost Reduction ProposalDifferential Analysis

Mary Zimmerman decided to purchase a new automobile. Being concerned about environmental issues, she is leaning toward the hybrid rather than the completely gasoline four-cylinder model. Nevertheless, as a new business school graduate, she wants to determine if there is an economic justification for purchasing the hybrid, which costs $1,400 more than the regular VUE. She has determined that city/highway combined gas mileage of the Green VUE and regular VUE models are 27 and 23 miles per gallon respectively. Mary anticipates she will travel an average of 12,000 miles per year for the next several years. (Round your answers to two decimal places.)

(a) Determine the payback period of the incremental investment if gasoline costs $3.60 per gallon. Answer

(b) Assuming that Mary plans to keep the car five years and does not believe there will be a trade-in premium associated with the hybrid model, determine the net present value of the incremental investment at an eight percent time value of money. (Use a negative sign with your answer.)

(c) Determine the cost of gasoline required for a payback period of three years. $Answer per gallon

(d) At $4.15 per gallon, determine the VUE Green combined gas mileage required for a payback period of three years. Answer

miles per gallon