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 division’s 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) $ 310,000 $ 510,000 Annual revenues and costs: Sales revenues $ 360,000 $ 460,000 Variable expenses $ 164,000 $ 214,000 Depreciation expense $ 45,000 $ 87,000 Fixed out-of-pocket operating costs $ 81,000 $ 65,000 The company’s 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.) 2. Calculate the net present value for each product. (Round discount factor(s) to 3 decimal places.) 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.) 4. Calculate the project profitability index for each product. (Round discount factor(s) to 3 decimal places. Round your answers to 2 decimal places.) 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%.) 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: Accept Product A Accept Product B Reject both products.