Baxton Company manufactures short-lived, fad-type items. The research and development department came up with an item that would make a good promotional gift for office equipment dealers. Aggressive effort by Baxton's sales personnel has resulted in almost firm commitments for this product for the next three years. It is expected that the product's novelty will be exhausted after three years.
In order to produce the quantity demanded, Baxton will need to buy additional machinery and rent some additional space. About 25,000 square feet will be needed; 12,500 square feet of presently unused, but leased, space are available now. (Baxton's present lease with 10 years to run costs $3.00 a square foot.) There are another 12,500 square feet adjoining the Baxton facility that Baxton will rent for three years at $4.00 per square foot per year if it decides to make this product.
The equipment will be purchased for $900,000. It will require $30,000 in modifications, $60,000 for installation, and $90,000 for testing. All of the expenditures will be paid for on January 1, 1990. The equipment should have a salvage value of about $ 180,000 at the end of the third year. No additional general overhead costs are expected to be incurred.
The following estimates of revenues and expenses for this product for the three years have been developed:

Required:
a. Prepare a schedule that shows the differential after-tax cash flows for this project.
b. If the company requires a two-year payback period for its investment, would it undertake this project.?
c. Calculate the after-tax accounting rate of return for the project.
d. A newly hired business school graduate recommends that the company use net present value analysis to study this project. If the company sets a required rate of return of 20 percent after taxes, will this project be accepted? (Assume all operating revenues and expenses occur at the end of the year.)
e. What is the internal rate of return of the proposed project?

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1990 1991 1992 Sales Material, labor, and direct overhead Allocated general overhead Rent Depreciation $1,000,000 $,600,000 $800,000 350,000 35,000 87,500 150,000 622,500 177,500 71,000 400,000 40,000 87,500 450,000 977,500 22,500 9,000 750,000 75,000 87,500 300,000 1,212,500 387,500 155,000 Income before taxes Income taxes (40%) Net income 13,500 232,500 $106,500