Question: Wack Jendler, a manager of the Marshmallow Division of Stay Puft, Inc., has the opportunity to expand the division by investing in additional machinery costing $510,000. He would depreciate the equipment using the straight-line method and expects it to have no residual value. It has a useful life of 10 years. Stay Puft mandates a required after-tax rate of return of 13% on investments. Wack estimates annual net cash inflows for this investment of $120,000 before taxes and an investment in working capital of $6, 500. The tax rate is 35%.
1. Calculate the net present value of this investment.
2. Calculate the accrual accounting rate of return based on net initial investment for this project.
3. Should Wack accept the project? Will Wack accept the project if his bonus depends on achieving an accrual accounting rate of return of 13%? How can this conflict be resolved?