Solutions to Chapter 5 Problems

5-1 No. A higher MARR reduces the present worth of future cash inflows created by savings (reductions) in annual operating costs. The initial investment (at time 0) is unaffected, so higher MARRs reduce the price that a company should be willing to pay for this equipment.

281
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5-2

One of many formulations: PW(10%) = $50,000 + ($20,000 $5,000) (P/A, 10%, 5) $1,000 (P/G, 10%, 5) + $11,000 F/A, 10%, 5) (P/F, 10% 10) + $35,000 (P/F, 10%, 10), so we find that PW(10%) = $39,386, and this is a profitable undertaking.

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282

5-3

Bonus = $12.5 million (P/A, 20%, 3)(0.001) = $26,331. This is a very nice bonus for Joshs contribution to the company. (The international passengers did not balk at this idea because flights have been packed to capacity for the past year.)

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283

5-4

PW(12%) = $13,000 + $3,000 (P/F,12%,15) $1000 (P/A,12%,15) $200 (P/F,12%,5) $550 (P/F,12%,10) = $13,000 + $3,000(0.1827) $1000(6.8109) $200(0.5674) $550(0.3220) = $19,553.38

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284

5-5

p = $100,000, AR = $30,000, AE = $5,000 MARR = 15%, SV = $20,000, N = 15 years

PW = -P + AR (P/A, 15%, 15) AE(P/A, 15%, 15) + SV(P/F, 15%, 15) = -100,000 + 30,000(5.8474) 5,000 (5.8474) + 20,000(0.1229) =$48,643.00, the investment is desirable

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285

5-6

($90 / kW/yr)(100 hp)(0.746 kW/hp) = $7,640 / year 0.9 ($0.08 / kWh)(100 hp)(0.746 kW/hp)(8,760 hr/yr) Energy charge / year = = $58,089 / year 0.9 Total annual cost of operation = $65,549
Demand charge / year = PW(15%) = $3,500 $65,549 (P/A, 15%, 10) = $332,477. Notice that the annual cost of operating the motor is almost 19 times the initial investment costs of the motor!

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286

5-7

PW(18%) = $84,000 + $18,000 (P/A, 18%, 6) = $21,043. Since PW < 0, this is not an acceptable investment.

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287

5-8

The weekly interest rate equals 6.5% / 52, or 0.125% per week. The present worth of an indefinitely long payout period is $5,000 / 0.00125 = $4,000,000.

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288

5-9

Assume miles driven each year is roughly constant at 12,000. A four-speed transmission car will consume 400 gallons of gasoline each year, and the fuel cost is $1,200 per year. The six-speed transmission will attain (1.04)(30 mpg) = 31.2 mpg for an annual consumption of 384.6 gallons and a fuel cost of $1,153.80. The annual savings due to a six-speed transmission is $1,200 $1,153.80 = $46.20. Over a ten year life, the present worth of savings will be $46.2 (P/A, 6%, 10) = $340. This is how much extra the motorist should be willing to pay for a six-speed transmission.

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289

5-10

Desired yield per year = 10% VN = $1,000 (P/F, 10%, 10) + 0.14 ($1,000) (P/A,10%,10) = $1,000 (0.3855) + $140 (6.1446) = $1,245.74

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290

5-11

VN = $10,000 (P/F, 1.75%, 120) + $150 (P/A, 1.75%, 120) = $10,000 (0.1247) + $150 (50.0171) = $8,750 The worth of Jims bonds had dropped by $1,250 because of the increase in the marketplace interest rates for long-term debt. With bonds, as the interest rate in the economy goes up, the value of the bond decreases and vice versa.

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291

5-12

CR = P(A/P, i%, N) F(A/F, i%, N) = $570.6

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292

5-13

True interest rate in the IRR associated with the equation PW(i') = 0. ($1,000,000 $50,000) $40,000 (P/A,i',15%) $70,256 (P/A,i',15) $1,000,000 (P/F,i',15) = 0 $950,000 $110,526 (P/A,i',15%) $1,000,000 (P/F,i',15) = 0 at 10%: at 12%: $950,000 $110256 (7.6061) $1,000,000 (0.2394) = $128,018 $950,000 $110,256 (6.8109) $1,000,000 (0.1827) = +$16,357

By interpolation, i' = 11.773%

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293

5-14

Purchase price of the bonds = $9,780 Annual interest paid by the government = (0.05)($10,000) = $500 Redemption value in 10 years = $10,000 Yield on the bonds is found by finding i that satisfies the following equation: 0 = $9,780 + $500 (P/A, i, 10) + $10,000 (P/F, i, 10) i = 5.29% per year (the yield)

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294

5-15

From the viewpoint of WRC, they can determine the annuity equivalent of their services: A = $360,000 + $15,000 (A/G, 12%, 100) = $484,982. Then PW(12%) = $484,982 (P/A, 12%, 100) = $4,041,452. WRC will receive more upfront money than the value of its services over a 100-year period, so this is a profitable agreement for WRC. They will earn more than 12% on this deal.

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295

5-16

(a) CW(10%) =

$1,500 $10,000 (A F ,10%,4) + ( P / F,10%,1) = $34,591 010 . 010 .

(b) Find the value for N for which (A/P,10%,N) = 0.10 From Table C-13, N = 80 years

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296

5-17

AW = $20,000,000 (A/P, 8%, 40) $600,000 = $2,278,000 CW = $2,278,000 / 0.08 = $28,475,000

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297

5-18

$10,000,000

2000

2004 2005 2006

2009 $250,000/yr

2014 ~ Forever

X Amount at July 2004:

$100,000(1.05)4 $3,000,000 = $12,155,000 $3,000,000 = $9,155,000 $9,155,000

2004 2005 $250,000/yr X

2009

2014

$9,155,000 = $250,000(P/A,5%, ) + X(A/F,5%,5)(P/A,5%, ) = $250,000 (20) + 0.181X (20) or X = $1,147,790 every 5 years

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5-19
$2,900 $2,900 $2,800 $2,700 $2,500 $2,400 $2,300 $2,200 $2,100

$500

10

(EOY)

Let A = $2,900, G = $100 (delayed 1 year) F6 = $2,000 P0 = $2,900 (P/A,6$,10) 100(P/G,6%,9)(P/F,6%,1) $2,000(P/F,6%,6) = $2,900 (7.3601) $100 (24.5768) (0.9434) $2,000 (0.7050) = $17,615.71 FW10 = $17,615.71(F/P, 6%, 10) = $17,615.71(1.7908) = $31,546.21

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299

5-20

FW = $100,000(F/P, 20%, 15) + AR(F/A, 20%, 15) + SV = $100,000(15.4070) + 30,000(72.0351) + 20,000 = $21,65,646 > 0 It is desirable to invest.

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300

5-21

FW(15%) = $10,000 (F/P,15%,5) + ($8,000 $4000)(F/A,15%,5) $1,000 = $10,000 (2.0114) + $4000(6.7424) $1,000 = $5,855.60

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301

5-22

PW = $1,020[1 (P/F, 10%, 20)(F/P, 2%, 20)]/(0.10 0.02) = $9,935 FW = $9,935(F/P, 10%, 20) = $66,838

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302

5-23

Opportunity Cost = Investment at BOY x (P/F, 15%, 1) = BOY (0.15) Capital Recovery Amount = Opportunity Cost + Loss in Value During Year Investment Opportunity at Beginning Cost of Interest of Year (i = 15%) Year 1 $10,000 $10,000 (0.15) = 1,500 2 10,0003000 = 7,000 7,000 (0.15) = 1,050 3 7,000 2,000 = 5,000 5,000 (0.15) = 750 4 5,000 2,000 = 3,000 3,000 (0.15) = 450 Loss in Capital Value Recovery During Year Amount $3,000 1,500 + 3,000 = 4,500 2,000 1,050 + 2,000 = 3,050 2,000 750 + 2,000 = 2,750 1,000 450 + 1,000 = 1,450

P0 = $4,500 (P/F,15%,1) + $3,050 (P/F,15%,2) + $2,750 (P/F,15%,3) +$1,450 (P/F, 15%, 4) = $4,500 (0.8696) + $3,050 (0.7561) + $2,750 (0.6575) + $1,450 (0.5718) = $ 8,856.54 A = $8,856.54 (A/P,15%,4) = $8,856.49 (0.3503) = $3,102.45 This same value can be obtained and confirmed with Equation (5-5): CR(i%) = I (A/P, i%, N) S (A/F, i%, N) = $10,000 (A/P,15%,4) $2,000 (A/F,15%,4) = $10,000 (0.3503) $2,000 (0.2003) = $3,102.12 Note: The Annual Worth from the table and the CR amount from Equation (5-5) are the same.

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303

5-24 Investment Opportunity at Beginning Cost of Interest of Year (i = 15%) $1,000 $50 1,000 200 = 800 800(0.05) = 40 600 30 600 200 = 400 20 Loss in Value During Year $250 $50 = $200 200 200 400 300 = 100 Capital Recovery Amount $250 240 230 20 + 100 = 120

Year 1 2 3 4

(a) (b) (c) (d) (e) (f)

Loss in Value = Capital Recovery Amount Opportunity Cost Investment at BOY2 = Investment at BOY1 Loss in Value during Year 1 Opportunity Cost = Investment at BOY * (0.05) Investment at BOY4 = Investment at BOY3 Loss in Value during Year 3 Loss in Value during year 4 = Investment at BOY4 Salvage Value at EOY4 Capital Recovery Amount = Opportunity Cost + Loss in Value during Year

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304

5-25

P = $6,000; N = 4 years; AR = $2,000; AE = $400; F = $900 $800 = $100; i = 8% AW = P(A/P, 8%, 4) + AR AE + F(A/F, 8%, 4) = $189.21 Not advisable

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305

5-26

AW(18%) = $15,000(A/P, 18%, 2) + $10,000 $3,000 + $10,000(A/F, 18%, 2) = $2,006.50 > 0. A good investment.

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306

5-27

Capital Investment = $300,000 $600,000 $250,000 $100,000 = $1,250,000 Revenue = $750,000 per year Market Value = $400,000 + $350,000 + $50,000 = $800,000 Expenses = $475,000 per year AW(15%) = $750,000 $475,000 $1,250,000(A/P, 15%, 10) + $900,000(A/F, 15%, 10) = $275,000 $1,250,000(0.1993) + $900,000(0.0493) = $70,245 > 0 Therefore, they should invest in the new product line (Note: all of the $100,000 working capital recovered at the end of year 10).

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307

5-28

(a)

Initial investment = $54,000 (one-time cost) Operating expenses = $450 + $7.50(3,000) = $22,950 per year (recurring expense) Disposal = $8,000 (one-time cost) AW(15%) = $54,000(A/P, 15%, 8) $22,950 $8,000(A/F, 15%, 8) = $35,570

(b)

Fuel related cost = ($22,500 / $35,570) 100% = 63.3% of the total.

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308

5-29

Investment cost of new buses = 35 ($40,000 $5,000) = $1,225,000 Annual fuel + maintenance = $144,000 $10,000 = $134,000 EUAC(6%) = $1,225,000(A/P, 6%, 15) + $134,000 = $260,175

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309

5-30

Purchase price = $33,500 - $4,500 = $29,000 Capital recovery cost per year = $29,000(A/P, 8%,7) $3,500(A/F, 8%, 7) = $29,000(0.1921) $3,500(0.1121) = $5,570.90 $392.35 = $5,178.55 She cannot afford (barely) this automobile. Maybe she can negotiate for a lower net purchase price. How much would it have to be?

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310

5-31

The incremental investment is (0.08)($250,000) = $20,000. The equivalent annual savings (A) is then $20,000(A/P, 10%, 30) = $2,122 to justify the extra investment. If this savings represents 15% of the total annual heating and cooling expense, the total annual expenditure would have to be $14,147. This is high in most parts of the U.S., so green homes are difficult to justify on economic grounds alone. Can you list some non-economic considerations that may bear on the decision to build a green home?

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311

5-32

Let X = units produced per year. Then the breakeven equation becomes: AW(15%) = $500,000(A/P, 15%, 5) $35,000 + X ($50 $7.50) = 0 Solving yields X = 4,333 units per year.

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312

5-33

Monthly gasoline savings = 10 gallons x $2.75 per gallon = $27.50 per month. $1,200 = $27.50 per month (P/A, 0.5% per month, N months) (P/A, 0.5%, N) = 43.64 From Table C-2, 48 < N < 60 Interpolating yields N = 50 months. Using Excel, NPER(0.005, 27.5, 1200) = 49.35

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313

5-34

(a)

AW = 0 = $10,000,000(A/P, i, 4) + $2,800,000 + $5,000,000(A/F, i, 4) Solving yields i = 18.5%

(b)

Yes, IRR (18.5%) > MARR (15%). The plant should be built.

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314

5-35

EUAC of the equipment = $1,000,000 (A/P, 15%, 8) = $222,900. Letting C = the output (sq. yards) of re-manufactured carpet, we have $1C + $222,900 = $3C, so C = 111,450 square yards per year.

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315

5-36

P = $50,000; SV = $7,000; N = 20 years, AR = $10,000 PW = 0 = P + AR(P/A, i %, 20) + SV(P/F, i%, 20)

i = 17.81% < MARR (20%)

Not desirable.

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316

5-37

$12,000(P/A, i%, 5) = 2,000(P/A, i%, 15) (P/F, i%, 5) Using hit & trial method. i = 1.8%

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317

$255 5-38 0 1 2 3 14 15

$3,000 $3,000 = $255 (P/A, i, 15) i = 3.2% per month r = 12 3.2% = 38.4% compounded monthly (APR) ieff = (1.032)12 1 = 0.459 or 45.9% per year

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318

5-39

$12,000(P/A, i%, 5) = 2,000(P/A, i%, 15) (P/F, i%, 5) Using hit & trial method. i = 1.8%

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319

5-40

(a)

The following cash flow diagram summarizes the known information in this problem. $50,000 $39,000

2012 2013 2014

$75,000 (b) (c) $75,000 = $39,000 (P/F, i'%, 1) + $50,000 (P/F, i'%, 2), or i' = 11.7% (IRR). $75,000 (F/P,i'%, 2) = $39,000 (F/P, 8%,1) + $50,000 $75,000 (F/P, i'%,2) = $92,120, so i' = 10.1% (ERR)

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320

5-41

$3,000 = $30(P/A, i'% per month, 120 months) By trial and error or with Excel we can determine that i' equals 0.31% per month. Assuming monthly compounding, this equates to i' = 3.78% per year. This is not a particularly good investment, but it is favorable to the environment. (The payback period is 100 months, or 8.33 years.)

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321

$375 5-42 0 1 2 $350 The CFD is from the lenders viewpoint. Equating outflows to inflows: $350 + $350(P/A, i, 11) = $375(P/A, i, 12) i = 7.14% per month The effective annual interest rate is (1.0714)12 1 = 1.288 (128.8%). Jesss wife is correct, and in fact, the U.S. military is moving to correct predatory lending practices near its installations. 3 11 12

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322

5-43

CR = P(A/P, 20%, 6) S(A/F, 20%, 6) = $23,049

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323

5-44

PW(i'%) of outflows = PW(i'%) of inflows $308.57 (P/A,i'%,35) = $7,800 (P/A,i'%,35) = 25.2779 (P/A,1%,35) = 29.4085 and (P/A,2%,35) = 24.9986, Therefore, 1% < i'% < 2%. Linear interpolation yields: i'% = 1.9% per month A.P.R. = (1.9% per month)(12 months/year) = 22.8% compounded monthly

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324

5-45

General Equation: PW(i'%) = 0 = $450,000 $42,500(P/F,i'%,1) + $92,800(P/F,i'%,2) + $386,000(P/F, i'%, 3) + $614,600(P/F, i'%, 4) $202,200(P/F, i'%, 5) PW(20%) = $17,561 > 0, i'% > 20% PW(25%) = $41,497 < 0, i'% < 25% Linear interpolation between 20% and 25% yields: i'% = 21.5% > 10%, so the new product line appears to be profitable. However, due to the multiple sign changes in the cash flow pattern, the possibility of multiple IRRs exists. The following graph of PW versus i indicates that multiple IRRs do not exist for this problem.

PW(i%)
$400,000 $300,000 $200,000 $100,000 $0 -$100,000 -$200,000 -$300,000 -$400,000 10% 20% 30% 40% 50% 60% 70% 80% 90% 100%

IRR = 21.5%

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325

5-46

(a)

PW(i'%) = 0 = $23,000 $1,200 (P/A,i'%,4) $8,000 (P/F,i'%,4) + $5,500 (P/A,i'%,11)(P/F,i'%,4) +$33,000 (P/F,i'%,15) By linear interpolation, i'% = IRR = 10%

(b)

FW (12%) = $23,000(F/P,12%,15) $1,200(F/A,12%,4)(F/P,12%,11) $8,000(F/P,12%,11) + $5,500 (F/A,12%,11) + $33,000 = $23,000(5.4736) $1,200(4.7793)(3.4785) $8,000(3.4785) + $5,500 (20.6546) + $33,000 = $27,070.25

(c)

$23,000 $1,200(P/A,12%,4) $8,000(P/F,12%,4) (F/P,i'%,15) = $5,500(F/A,12%,11) + $33,000

[$23,000 + $1,200(3.0373) + $8,000(0.6355)] (F/P,i'%,15) = $5,500(20.6546) + $33,000 15 $31,728.76 (1 + i') = $146,600.30 i' = ERR = 0.1074 or 10.74%

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326

5-47

IRR method: PW(i'%) = 0 = $500,000(P/F,i'%,1) + $300,000(P/F,i'%,2) + [$100,000 + $100,000(P/A,i'%,7) + $50,000(P/G,i'%,7)](P/F,i'%,3) $2,500,000 (P/F,i'%,4)

i'% 1 2 3 4 5

Present Worth $103,331.55 63,694.68 30,228.14 2,175.18 21,130.28

i'% 30 31 32

Present Worth $12,186.78 5,479.09 1,182.76

There are two internal rates of return: 4.09% and 31.8% per year. ERR Method:

$2,400,000(P/F,8%,4)(F/P,i'%,10) = $500,000(F/P,8%,9) +$300,000(F/P,8%,8) + $100,000(F/P,8%,7) + $150,000(P/A,8%,6)(F/P,8%,6) + $50,000(P/G,8%,6)(F/P,8%,6)

After solving, the external rate of return is 7.6% per year.

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327

5-48

The general equation to find the internal rate of return is: PW(i'%)= 0 = $520,000 + $200,000 (P/A, i'%, 10) $1,500,000 (P/F, i'%, 10) (a) i'% 0 0.5 1 4 10 PW(i'%) $ 20,000 0 10,250 89,000 131,000 i'% 15 20 25 30 40 PW(i'%) $113,000 76,000 33,000 10,350 89,100

i'% = 1/2% and 28.8% per year.

$150,000 $100,000
IRR = 28.8%

PW(i%)

$50,000 $0 -$50,000 -$100,000

5% 10% 15% 20% 25% 30% 35%

IRR = 0.5%

i%

(b) Assume = 20% per year.

$520,000$1,500,000(P/F,20%,10)(F/P,i'%,10)=$200,000(F/A,20%,10) [$520,000 + $1,500,000(0.1615)](F/P,i'%,10) = $200,000(25.9587) $762,250 (1+i')10 = $5,191,740 i' = 0.2115 or 21.15% ERR > 20%, therefore the project is economically acceptable.

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328

5-49

(a) The simple payback period is $1,400 / $24 per month = 58 months, or about five years. This is a marginally good investment. (b) The IRR can be determined from this equation: 0 = $1,400 + $24 (P/A, i'% per month, 120 months) From Excel we can determine i' = 1.39% per month (approximately), or about 18% compounded annually. This is a pretty good investment, assuming the salvage value is negligible. If the solar panels can last for 10 years, they are a good hedge against any increase in the cost of electricity (hedges are investments to protect against price increases, i.e. they reduce risk).

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329

5-50

P = $10,000; F = $2,000; i = 15%, N = 5years. (a) CR = 10,000(A/P, 15%, 5) 2,000(A/F, 15%, 5) = $2,685.8 (b) E = $200 + $(1200) (25) = $30200 EUAC (15%) = $2,685.8 + $30,200 = $32,885.8

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330

5-51

(a) (b) (c) (d)

0 = $4,900 + $1,875(P/A, i, 5);

i = 26.4%

= $4,900 / $1,875 = 3 years (to the integer year) The IRR will signal an acceptable (profitable) project if the MARR is less than 26.4% and the value of may indicate a poor project in terms of liquidity. 1/ = 33.3%. This is the payback rate of return, and it over-estimates the actual IRR.

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331

5-52

(a) (b)

The sum of positive cash flows through year five is $325,000, which marginally exceeds the initial investment of $300,000. Therefore, the simple payback period is five years. To find the IRR, we must solve this equation: 0 = $300,000 + $75,000 (P/A, i', 6) $5,000 (P/G, i', 6) + $20,000 (P/F, i', 6) By trial and error (or with Excel), we can determine that i' = 8.76%.

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332

5-53

PW(i'%) = 0 = $100,000 + $20,000 (P/A,i'%,5) + $10,000 (P/G,i'%,5) + $10,000 (P/F,i'%,5) PW(20%) = $12,891 > 0, i'% > 20% PW(25%) = $897 < 0, i'% < 25% By linear interpolation, i'% = IRR = 24.7% EOY 1 2 3 4 Cumulative Cash Flow $100,000 + $20,000 = $80,000 < 0 80,000 + 30,000 = 50,000 < 0 50,000 + 40,000 = 10,000 < 0 10,000 + 50,000 = 40,000 > 0 = 4 years

Although this project is profitable (IRR > MARR), it is not acceptable since = 4 years is greater than the maximum allowable simple payback period of 3 years.

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333

5-54

Year 0 1 2 3 4

Cash Flow For Year $275,000 35,000 55,000 175,000 250,000

PW(8%) of Cash Flow $275,000 32,407 47,154 138,921 183,757

Cumulative PW thru Year $275,000 307,407 260,254 121,333 62,424

>0

The project meets the benchmark.

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334

5-55

(a) (b) (c)

FW(18%) = $84,028 0, so the profitability is acceptable. IRR = 38.4% 18%, so the investment is a profitable one.

= 4 years, so the liquidity is marginal at best.

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335

5-56

(a)

Annual Savings = $2.5 billion Affordable amount: PW = $2.5 billion (P/A, 7%, 40) = $33.33 billion

(b)

= $25 billion / $2.5 billion = 10 years

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336

5-57

P = $100,000; AR = $40,000, N = 5 years, AE = $4,000; SV = 0; i = 10% PW = P + AR(P/A, i%, 5) AE(P/A, i%, 5) = 0 i = 21.54%

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337

5-58

(a)

Set AW(8%) = 0 and solve for S, the salvage value. 0 = $2,000(A/P, 10%, 8) + $350 + S (A/F, 10%, 8); S = $283.75

(b)

Set PW(i) = 0 (or AW or FW) and solve for i. 0 = $2,000 + $350(P/A, i, 8); i = 8.15% per year

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338

5-59

Because the face value (what a bond is worth at maturity) of a bond and its interest payout are fixed, the trading price of a bond will increase as interest rates go down. This is because people are willing to pay more money for a bond to obtain the fixed interest rate in a declining interest rate market. For instance, if the bond pays 8% per year, people will pay more for the bond when interest rates in the economy drop from, for example, 6% to 5% per year.

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339

5-60

(a) (b)

In all three cases, IRR = 15.3%. This is true for EOY 0 as a reference point in time, and also for EOY 4 as a reference point in time. PW1(10%) = $137.24 PW2(10%) = $137.24 PW2(10%) = $93.73 PW3(10%) = $686.18 PW3(10%) = $468.67 at EOY 0 at EOY 4 at EOY 0 at EOY 4 at EOY 0

Select (3) to maximize PW(10%). However, the PW(IRR=15.3%) would be zero for all three situations.

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340

5-61

(a)

Loan repayment amount = $30 million (A/P, 6%, 40) = $1.995 million per year. Recurring expenses = $4,000 (300) = $1.2 million per year Total annual expenses = $1.995 million + $1.2 million = $3.195 million per year Revenue = $12,000 (300)(0.80) = $2.88 million per year Annual Profit (loss) = $2.88 million $3.195 million = $0.315 million per year Revenue = $12,000 (300)(0.95) = $3.42 million per year Annual Profit (loss) = $3.42 million $3.195 million = +$0.225 million per year

(b)

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341

5-62

P = $400,000, R = $110,000; AE = $20,000; N = 5 years, SV = $100,000 PW = 0 = P + (AR AE)(P/A, i%, N) + SV(P/F, i%, N) i = 10.31% < MARR (20%) Not desirable

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342

5-63

(a)

AW(15%) = $710,000(A/P, 15%, 5) + $198,000 + $100,000(A/F, 15%, 5) = $1,828 per year. Yes, it is a good investment opportunity

(b)

IRR:

0 = $710,000(A/P, i, 5) + $198,000 + $100,000(A/F, i, 5) i = 15.3%

= 4 years ' = 5 years

(c)

Other factors include sales price of reworked units, life of the machine, the companys reputation, and demand for the product.

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343

Solutions to Spreadsheet Exercises

5-64
Desired Ending Balance Current Age Age at Retirement $ 250,000 25 60 Interest Rate per Year 8% $ 2,207 $ 3,420 $ 5,463 $ 9,207

4% N 5 10 15 20 $ $ $ $ 4,458 6,003 8,395 12,485

$ $ $ $

12% 1,036 1,875 3,470 6,706

The formula used in cell C7 is:

=PMT(C$6,$D$3$D$2$B7,,$D$1 ) Note that this uses the fv parameter of the PMT function instead of the pv parameter. The formula in cell C7 was copied over the range C7:E10. The trend in the table shows that as the interest rate increases, less has to be saved each year. Also, the longer Jane delays the start of her annual savings, the larger the annual deposit will have to be.

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344

5-65

0.1 P = P (A/P,8%,N) so N 21 years A payout duration table can be constructed for selected payout percentages and compound interest rates as follows: 4% 13.0* 5.7 3.7 Interest Rate/Year 6% 8% 10% 15.7 20.9 never 6.1 6.6 7.3 3.8 4.0 4.3

Payout/Yr (% of principal)

10% 20% 30%

* Note: Table entries are years.

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345

5-66
MARR = Reinvestment rate = Capital Investment = Market Value = Useful Life = Annual Savings = Annual Expense = EOY 0 1 2 3 4 5 5 20% 20% $ $ $ $ $ 25,000 5,000 5 8,000 Cash Flow (25,000) 8,000 8,000 8,000 8,000 8,000 5,000 Present Value = Annual Worth = Future Worth = Internal Rate of Return = External Rate of Return = $ $ $ 934.28 312.41 2,324.80 21.58% 20.88% EOY 0 1 2 3 4 5 Cash Flow (25,000) 8,000 8,000 8,000 8,000 13,000

$ $ $ $ $ $ $

$ $ $ $ $ $

The following table displays the results of different MARRs on the profitability measures. MARR = 18% $ 2,202.91 $ 704.44 $ 5,039.73 21.58% 20.88% MARR = 22% $(240.89) $ (84.12) $(651.04) 21.58% 20.88%

Present Worth Annual Worth Future Worth IRR ERR

The original recommendation is unchanged for a MARR = 18%. However, the recommendation does change for MARR = 22% (which is greater than the IRR of the project's cash flows). Note that the ERR is unaffected by changes in the MARR. This is because 1) the reinvestment rate was assumed to remain at 20%, and 2) there is only a single net cash outflow occurring at t=0.

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346

5-67

See P5-67.xls.
Operating expenses $(3,500.00) $(3,750.00) $(4,000.00) $(4,250.00) $(4,500.00) $(4,750.00) $(5,000.00) $(5,250.00) $(5,500.00) $(5,750.00) PW

EOY 0 1 2 3 4 5 6 7 8 9 10

Laborsavings $15,000.00 $16,050.00 $17,173.50 $18,375.65 $19,661.94 $21,038.28 $22,510.96 $24,086.72 $25,772.79 $27,576.89

Netsavings $11,500.00 $12,300.00 $13,173.50 $14,125.65 $15,161.94 $16,288.28 $17,510.96 $18,836.72 $20,272.79 $21,826.89 $93,560.18

The hospital can afford to pay $93,560 for this device.

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347

5-68

See P5-68.xls.
Given: LoanAmount InterestRate RepaymentPeriods AnnualExpenses (perapartment) Numberofunits Inputs: AnnualRentalFee OccupancyRate IntermediateCalculations: AnnualLoan Payment Results: AnnualProfit(Loss) $30,000,000 6% 40 $4,000 300 $12,000 89% $1,993,846 $0

The Goal Seek function was used to find the breakeven occupancy rate of 89%.

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348

Solutions to Case Study Exercises

5-69

Average number of wafers per week: (10 wafers/hr)(168 hr/wk)(0.90) = 1,512 Added profit per month: (1,512 wafers/wk)(4.333 wk/month)($150/wafer) = $982,724 PW(1%) = $250,000 $25,000(P/A, 1%, 60) + $982,724(P/A, 1%, 60) = $42,804,482 The increase in CVD utilization serves to make the project even more attractive.

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5-70

Average number of wafers per week: (15 wafers/hr)(168 hr/wk)(0.80) = 2,016 New breakeven point:
X= $1,373,875 = $3.50 / wafer (2,016)(4.333)(44.955)

$3.50/$100 = 0.035 extra microprocessors per wafer. The retrofitted CVD tool would significantly reduce the breakeven point.

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350

5-71

Average number of wafers per week: (10 wafers/hr)(150 hr/wk)(0.90) = 1,350 Added profit per month: (1,350 wafers/wk)(4.333 wk/month)($150/wafer) = $877,433 PW(1%) = $250,000 $25,000(P/A, 1%, 60) + $877,433(P/A, 1%, 60) = $38,071,126 New breakeven point:
X= $1,373,875 = $5.225 / wafer (1,350)(4.333)(44.955)

$5.225/$100 = 0.05225 extra microprocessors per wafer.

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351

Solutions to FE Practice Problems

5-72

The remaining loan principal immediately after the 240th payment of $200 is: $200(P/A, 7%/12, 120) = $200(86.1264) = $17,225 The IRR on this investment can be dtermined by solving for i in this equation: 0 = $20,000 $200(P/A, i, 240) + [$100,000 $17,225](P/F, i, 240) By trial and error we find that i is about 0.128% per month. This corresponds to an effective annual interest rate of (1.00128)12 1 = 0.015 (1.5%) Select (d)

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5-73

i / mo. = 9%/12 = % per month; N = 4 x 12 = 48 months A = $8,000 (A/P, % per month, 48 months) = $8,000 (.0249) = $199.20 Select (d)

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5-74

EOY 0 1 2 3 4 Select (a)

Cumulative PW (i = 12%) $300,000 $300,000 + $111,837.50(P/F,12%,1) = $200,140.30 200,140.30 + $111,837.50(P/F,12%,2) = $110,983.45 $110,983.45 + $111,837.50(P/F,12%,3) = $31,377.52 $31,377.52 + $111,837.50(P/F,12%,4) = $39,695.21 > 0 ' = 4

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5-75

Capitalized Cost (10%) = $120,000 + $6,500 (P/A, 10%, 20) + $8,500 (P/F, 10%, 20) / 0.1 = $187,969. Select (b)

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355

5-76

PW = 0 = 2500 + 1000 (P/A, i%, 4) at i = 10% PW = 2500 + 1000 3.1699 = 1669.9 at i = 15% PW = 2500 + 1000 2.8550 = 355

x=

314.9 355 = 5 10 x
1775 x = 4.36% 314.9

10 x =

Select (c)

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5-77

VN = C(P/F,i%,N) + rZ(P/A,i%,N) = $981 N = 8 periods r = 10% per period ($1,000/$100 = 10%) C = Z = $1,000 $981= $1,000(P/F,i%,8) + (.10)($1,000)(P/A,i%,8) $981 = $1,000(P/F,i%,8) + $100(P/A,i%,8) Try i = 10%; $466.50 + $533.49 = $999.99 Try i = 12%; $403.90 + $496.76 = $900.66 By observation, i% is > 10% but very close to 10% rate of return = 10.35% Select (c)

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5-78

CW = 5,550 (A/P, 10%, 10) + $6,532 =$5,977 Select (b)

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358

5-79 = 2,000 + 200 (A/4, 1%, 24)

= 2,000 + 200 (11.0237) Select (d)

4,204.74

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5-80

i = 12%

f = 5%
$7000[1 (P/F, 12%, 6)(F/P, 5%, 6)] 0.12 0.05 $7000[1 (0.5066)(1.3401)] = $9,000 + 0.07 = $41,110.53 AW(12%) = $41,110.53 (A/P, 12%, 6) = $41,110.53(0.2432) = $9,998.08 PW (12%) = $9,000 +

Select (c)

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5-81

0 = $500,000 + $50,000 (P/A, i'%, 25), or 10 = (P/A, i', 25) By trial and error (or Excel) we can determine that i' = 8.8% per year. Select (c)

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5-82

P = $386(P/A, 1%, 38)(P/F, 1%, 1) = $12,033 Select (b)

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5-83

The simple payback period is $5,000 / $725 per year = 6.9 years (call it seven years). So the discounted payback period will be equal to or greater than the simple payback period. We want the discounted savings to be marginally greater than $5,000 in the following table: N 7 8 9 10 PW(6%) of savings $4,047 $4,502 $4,931 $5,336

Thus, the discounted payback period is ten years. Select (d).

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363

Solutions to Problems in Appendix

5-A-1 [$50 + $360(P/F, 8%, 2)](F/P, ERR, 3) = $235(F/P, 8%, 2) + $180

$358.63 (1 + ERR)3 = $454.10 ERR = 8.19% per year A maximum of three IRR values are suggested by Descartes rule of signs.

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364

5-A-2 [$5,000 + $1,000(P/F, 12%, 2)](F/P, ERR, 3) = $6,000(F/P, 12%, 2) + $4,000

$5,797.20 (1 + ERR)3 = $11,526.40 ERR = 25.75% per year. Nordstroms criterion indicates that a unique IRR exists since there is only one sign change in the cumulative cash flow. A plot of PW v. i confirms a single IRR value of 45%.

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365

5-A-3 Descartes rule allows for the possiblity of two IRRs. A plot of PW v. i confirms this (26.73% and 37.12%). The ERR metric is a more useful measure in this situation.

[$1,810(P/F, 10%, 4)](F/P, ERR, 10) = $120(F/P, 10%, 10) + $90(F/P, 10%, 9) + + $100 $1,236.23 (1 + ERR)10 = $3,624.30 ERR = 11.36% per year

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366

5-A-4 Assume $P savings at the end of each 5-year inteval, or P/5 on an annual basis. Assume residual value of the building is negligible.

10

45

50

P 0 = P + (P/5)(P/A, i'/yr, 50) 5P = P (P/A, i'/yr, 50) i' 20% per year This is a unique IRR no multiple IRRs exist for this situation.

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