Question

Wendell's Donut Shoppe is investigating the purchase of a new $34,600 donut-making machine. The new machine would permit the company to reduce the amount of part-time help needed, at a cost savings of $6,200 per year. In addition, the new machine would allow the company to produce one new style of donut, resulting in the sale of 2,200 dozen more donuts each year. The company realizes a contribution margin of $2.00 per dozen donuts sold. The new machine would have a six-year useful life. Click here to view Exhibit 12B-1 and Exhibit 12B-2, to determine the appropriate discount factor(s) using tables. Required: 1. What would be the total annual cash inflows associated with the new machine for capital budgeting purposes? 2. What discount factor should be used to compute the new machine's internal rate of return? (Round your answer to 3 decimal places.) 3. What is the new machine's internal rate of return? (Round your final answer to nearest whole percentage.) 4. In addition to the data given previously, assume that the machine will have a $12,630 salvage value at the end of six years. Under these conditions, what is the internal rate of return? (Hint: You may find it helpful to use the net present value approach; find the discount rate that will cause the net present value to be closest to zero.) (Round your final answer to nearest whole percentage.)

Answer 1

1
Savings in part time help	6200
Additional contribution margin	4400	=2200*2
Annual cash inflows	10600
2
Discount factor	3.264	=34600/10600
3
The discount factor 3.264 for 6 years is closest to 21%
Internal rate of return	21%
4
Cash flows in year 6	23230	=10600+12630
Internal rate of return	25%