EXERCISE 13–2 Internal Rate of Return [LO2]
Pisa Pizza Parlor is investigating the purchase of a new $45,000 delivery truck that would contain specially designed warming racks. The new truck would have a six-year useful life. It would save
$5,400 per year over the present method of delivering pizzas. In addition, it would result in the sale of 1,800 more pizzas each year. The company realizes a contribution margin of $2 per pizza.
(Ignore income taxes.)
1. What would be the total annual cash inflows associated with the new truck for capital budget- ing purposes?
2. Find the internal rate of return promised by the new truck to the nearest whole percent.
3. In addition to the data already provided, assume that due to the unique warming racks, the truck will have a $13,000 salvage value at the end of six years. Under these conditions, com- pute the internal rate of return to the nearest whole percent. (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. Use the format shown in Exhibit 13–4.)
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