Lou Barlow, adivisional manager for Sage Company, has an opportunity tomanufacture and sell one of two new products for a five-yearperiod. His annual pay raises are determined by his division’sreturn on investment (ROI), which has exceeded 17% each of the lastthree years. He has computed the cost and revenue estimates foreach product as follows:
| Product A | Product B |
| Initial investment: | | | | | |
| Cost of equipment (zero salvagevalue) | $ | 180,000 | | $ | 390,000 |
| Annual revenues and costs: | | | | | |
| Sales revenues | $ | 260,000 | | $ | 360,000 |
| Variable expenses | $ | 124,000 | | $ | 174,000 |
| Depreciation expense | $ | 36,000 | | $ | 78,000 |
| Fixed out-of-pocket operatingcosts | $ | 71,000 | | $ | 50,000 |
|
The company’s discountrate is 15%.
Click here to viewExhibit 13B-1 and Exhibit 13B-2, to determine the appropriatediscount factor using tables.
Required:
1. Calculate thepayback period for each product.
2. Calculate the netpresent value for each product.
3. Calculate theinternal rate of return for each product.
4. Calculate theproject profitability index for each product.
5. Calculate thesimple rate of return for each product.
6a. For each measure,identify whether Product A or Product B is preferred.
6b. Based on thesimple rate of return, Lou Barlow would likely:
