Boom, Inc., sells business software. Currently, all of its programs come on disks. Due to their complexity, some of these applications occupy as many as seven disks. Not only are the disks cumbersome for customers to load, they are relatively expensive for Boom to purchase. The company does not intend to discontinue using disks altogether. However, it does want to reduce its reliance on the disk medium.

Two proposals are being considered. The first is to provide software on memory sticks. Doing so requires a $500,000 investment in duplicating equipment. The second is to make software available through a computerized “program bank.” In essence, programs would be downloaded directly from Boom using telecommunications technology. Customers would gain access to Boom’s main-frame, specify the program they wish to order, and provide their name, address, and credit card information. The software would then be transferred directly to the customer’s hard drive, and copies of the user’s manual and registration material would be mailed the same day. The program bank proposal requires an initial investment of $350,000.

The following information pertains to these proposals. Due to rapidly changing technology, neither proposal is expected to have any salvage value or an estimated life exceeding five years.

The only difference between Boom’s incremental cash flows and its incremental income is attributable to depreciation. A minimum return on investment of 12 percent is required.

Instructions
a. Compute the payback period of each proposal.
b. Compute the return on average investment of each proposal.
c. Compute the net present value of each proposal using the tables in Exhibits 26–3 and 26–4.
d. What nonfinancial factors should be considered?
e. Which of Boom’s employees would most likely underestimate the benefits of investing in the program bank? Why?
f. Which proposal, if either, do you recommend Boom choose?

In Exhibits 26–3

In Exhibits 26–4

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Memory Stick Equipment Program Bank Installation $260,000 140,000 Estimated incremental annual revenue of investment ...$400,000 Estimated incremental annual expense of investment 260,000 Present Value of $1 Due in n Periods* Number of Periods Discount Rate 1% 1 % 5% 990 .985 980 971 971 956 961942 951.928 942 915 933 901 923 888 914 875 905 862 820742 788 700 699 6% 8% 10% 12% 15% 20% 952 943926 99 893 870 833 907 890 87 82797756 694 864840 794 751 712 658 579 823 792 735 683 636 572 482 784 74768 621 567 497 402 746 705 630 564 507 432 35 711 665 583 513 452376 279 677 627 540 47404327 233 645 592 500 424284 194 614 558 463 386 322 47162 377 312 215 49 104061 026 310 2478 102 066 035 013 173 123 063 032 017 007 001 2 3 4 6 7 10 20 24 36 585