Question: Capital Budgeting: Comprehensive Exercise Riley John, a divisional manager for Sage Company, has an opportunity to manufacture and sell one of two new products for
| Capital Budgeting: Comprehensive Exercise | |||||||||
Riley John, a divisional manager for Sage Company, has an opportunity to manufacture and sell one of two new products for a five-year period. His annual pay raises are determined by his divisions return on investment (ROI), which has exceeded 17% each of the last three years. He has computed the cost and revenue estimates for each product as follows: | |||||||||
| Product A | Product B | ||||||||
| Initial investment: | |||||||||
| Cost of equipment (zero salvage value) | |||||||||
| Annual revenues and costs: | |||||||||
| Sales revenues | |||||||||
| Variable expenses | |||||||||
| Depreciation expense | |||||||||
| Fixed out-of-pocket operating costs | |||||||||
| The companys discount rate is 15%. | |||||||||
| Required: | |||||||||
| 1. Calculate the payback period for each product. | |||||||||
| 2. Calculate the net present value for each product. | |||||||||
| 3. Calculate the internal rate of return for each product. | |||||||||
| 4. Calculate the profitability index for each product. | |||||||||
| 5. Calculate the simple rate of return for each product. | |||||||||
| 6a. For each measure, identify whether Product A or Product B is preferred. | |||||||||
6b. Based on the simple rate of return, which of the two products should Lous division accept? | |||||||||
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