Selection of a machine through IRR.
The following machines are mutually exclusive.You may select only one.
Machine A will cost $150,000, save the company $40,000 per year for 5 years and can be sold for an additional $20,000 at the end of 5 years. At your firm's 10% cost of capital, it has a Net Present Value of $14,050. Its IRR (or ROI) is 13.4%.
Machine B will cost $190,000, save the company $50,000 per year for 5 years, and have a salvage value of $25,000. At your firm's 10% cost of capital, it has a Net Present Value of $15,062. Its IRR (or ROI) is 12.9%.
a. Which one would you choose?
b. Explain what is meant by the term,Internal Rate of Return.
|
PRESENT VALUE OF A SINGLE PAYMENT
|
|
(Payment to be received in the future)
|
|
Year
|
8%
|
9%
|
10%
|
11%
|
12%
|
13%
|
14%
|
15%
|
|
1
|
0.9259
|
0.9174
|
0.9091
|
0.9009
|
0.8929
|
0.8850
|
0.8772
|
0.8696
|
|
2
|
0.8573
|
0.8417
|
0.8264
|
0.8116
|
0.7972
|
0.7831
|
0.7695
|
0.7561
|
|
3
|
0.7938
|
0.7722
|
0.7513
|
0.7312
|
0.7118
|
0.6931
|
0.6750
|
0.6575
|
|
4
|
0.7350
|
0.7084
|
0.6830
|
0.6587
|
0.6355
|
0.6133
|
0.5921
|
0.5718
|
|
5
|
0.6806
|
0.6499
|
0.6209
|
0.5935
|
0.5674
|
0.5428
|
0.5194
|
0.4972
|
|
6
|
0.6302
|
0.5963
|
0.5645
|
0.5346
|
0.5066
|
0.4803
|
0.4556
|
0.4323
|
|
7
|
0.5835
|
0.5470
|
0.5132
|
0.4817
|
0.4523
|
0.4251
|
0.3996
|
0.3759
|
|
8
|
0.5403
|
0.5019
|
0.4665
|
0.4339
|
0.4039
|
0.3762
|
0.3506
|
0.3269
|
|
9
|
0.5002
|
0.4604
|
0.4241
|
0.3909
|
0.3606
|
0.3329
|
0.3075
|
0.2843
|
|
10
|
0.4632
|
0.4224
|
0.3855
|
0.3522
|
0.3220
|
0.2946
|
0.2697
|
0.2472
|
|
11
|
0.4289
|
0.3875
|
0.3505
|
0.3173
|
0.2875
|
0.2607
|
0.2366
|
0.2149
|
|
12
|
0.3971
|
0.3555
|
0.3186
|
0.2858
|
0.2567
|
0.2307
|
0.2076
|
0.1869
|
|
13
|
0.3677
|
0.3262
|
0.2897
|
0.2575
|
0.2292
|
0.2042
|
0.1821
|
0.1625
|
|
14
|
0.3405
|
0.2992
|
0.2633
|
0.2320
|
0.2046
|
0.1807
|
0.1597
|
0.1413
|
|
15
|
0.3152
|
0.2745
|
0.2394
|
0.2090
|
0.1827
|
0.1599
|
0.1401
|
0.1229
|
|
16
|
0.2919
|
0.2519
|
0.2176
|
0.1883
|
0.1631
|
0.1415
|
0.1229
|
0.1069
|
|
17
|
0.2703
|
0.2311
|
0.1978
|
0.1696
|
0.1456
|
0.1252
|
0.1078
|
0.0929
|
|
18
|
0.2502
|
0.2120
|
0.1799
|
0.1528
|
0.1300
|
0.1108
|
0.0946
|
0.0808
|
|
19
|
0.2317
|
0.1945
|
0.1635
|
0.1377
|
0.1161
|
0.0981
|
0.0829
|
0.0703
|
|
20
|
0.2145
|
0.1784
|
0.1486
|
0.1240
|
0.1037
|
0.0868
|
0.0728
|
0.0611
|
|
PRESENT VALUE OF AN ORDINARY ANNUITY
|
|
(Payments at the end of each year)
|
|
Year
|
8%
|
9%
|
10%
|
11%
|
12%
|
13%
|
14%
|
15%
|
|
|
|
|
|
|
|
|
|
|
1
|
0.9259
|
0.9174
|
0.9091
|
0.9009
|
0.8929
|
0.8850
|
0.8772
|
0.8696
|
|
2
|
1.7833
|
1.7591
|
1.7355
|
1.7125
|
1.6901
|
1.6681
|
1.6467
|
1.6257
|
|
3
|
2.5771
|
2.5313
|
2.4869
|
2.4437
|
2.4018
|
2.3612
|
2.3216
|
2.2832
|
|
4
|
3.3121
|
3.2397
|
3.1699
|
3.1024
|
3.0373
|
2.9745
|
2.9137
|
2.8550
|
|
5
|
3.9927
|
3.8897
|
3.7908
|
3.6959
|
3.6048
|
3.5172
|
3.4331
|
3.3522
|
|
6
|
4.6229
|
4.4859
|
4.3553
|
4.2305
|
4.1114
|
3.9975
|
3.8887
|
3.7845
|
|
7
|
5.2064
|
5.0330
|
4.8684
|
4.7122
|
4.5638
|
4.4226
|
4.2883
|
4.1604
|
|
8
|
5.7466
|
5.5348
|
5.3349
|
5.1461
|
4.9676
|
4.7988
|
4.6389
|
4.4873
|
|
9
|
6.2469
|
5.9952
|
5.7590
|
5.5370
|
5.3282
|
5.1317
|
4.9464
|
4.7716
|
|
10
|
6.7101
|
6.4177
|
6.1446
|
5.8892
|
5.6502
|
5.4262
|
5.2161
|
5.0188
|
|
11
|
7.1390
|
6.8052
|
6.4951
|
6.2065
|
5.9377
|
5.6869
|
5.4527
|
5.2337
|
|
12
|
7.5361
|
7.1607
|
6.8137
|
6.4924
|
6.1944
|
5.9176
|
5.6603
|
5.4206
|
|
13
|
7.9038
|
7.4869
|
7.1034
|
6.7499
|
6.4235
|
6.1218
|
5.8424
|
5.5831
|
|
14
|
8.2442
|
7.7862
|
7.3667
|
6.9819
|
6.6282
|
6.3025
|
6.0021
|
5.7245
|
|
15
|
8.5595
|
8.0607
|
7.6061
|
7.1909
|
6.8109
|
6.4624
|
6.1422
|
5.8474
|
|
16
|
8.8514
|
8.3126
|
7.8237
|
7.3792
|
6.9740
|
6.6039
|
6.2651
|
5.9542
|
|
17
|
9.1216
|
8.5436
|
8.0216
|
7.5488
|
7.1196
|
6.7291
|
6.3729
|
6.0472
|
|
18
|
9.3719
|
8.7556
|
8.2014
|
7.7016
|
7.2497
|
6.8399
|
6.4674
|
6.1280
|
|
19
|
9.6036
|
8.9501
|
8.3649
|
7.8393
|
7.3658
|
6.9380
|
6.5504
|
6.1982
|
|
20
|
9.8181
|
9.1285
|
8.5136
|
7.9633
|
7.4694
|
7.0248
|
6.6231
|
6.2593
|