Required: 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 Lou’s division accept?
Lou Barlow, 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 division’s
| Product A | Product B | |
|---|---|---|
| Initial investment: | ||
| Cost of equipment (zero salvage value) | $ 300,000 | $ 500,000 |
| Annual revenues and costs: | ||
| Sales revenues | $ 350,000 | $ 450,000 |
| Variable expenses | $ 160,000 | $ 210,000 |
| $ 60,000 | $ 100,000 | |
| Fixed out-of-pocket operating costs | $ 80,000 | $ 61,000 |
The company’s discount rate is 16%.
Click here to view Exhibit 14B-1 and Exhibit 14B-2, to determine the appropriate discount factor using tables.
Required:
3. Calculate the
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 Lou’s division accept?
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