Internal Rate of Return
Billy Brown, owner of Billy's Ice Cream On-the-Go, is investigating purchasing a new delivery van that would contain a custom-built refrigeration unit. The van would cost $90,000, have an eight- year useful life, and generate cost savings of $15,000 per year compared to the van currently being used. Also, Billy estimates the new van would result in the sale of 2,000 more litres of ice cream each year, which has a contribution margin of $1 per litre.
Required:
Ignore income taxes.
1. What would be the total annual cash inflows associated with the new van for capital budgeting purposes?
2. Find the IRR promised by the new van, rounded to one decimal place.
3. Now assume that in addition to the cash flows described above, the van will have a $10,000 salvage value at the end of eight years. Calculate the IRR rounded to one decimal place.