If a manufacturer of electronic devices invests $650,000 in equipment for making compact piezoelectric accelerometers for general purpose vibration measurement, estimate the rate of return from revenue of $225,000 per year for 10 years and $70,000 in salvage value from the used equipment sale in year 10. Solve by (a) factors, and (b) spreadsheet function.
What will be an ideal response?
(a) Factors and interpolation:
0 = -650,000 + 225,000(P/A,i*,10) + 70,000(P/F,i*,10)
Try 30%: - 650,000 + 225,000(3.0915) + 70,000(0.0725) = $50,663 > 0 too
low
Try 35%: - 650,000 + 225,000(2.7150) + 70,000(0.0497) = $-35,646 < 0 too high
Interpolation yields i* = 32.9% per year
(b) Spreadsheet: If cash flows are entered into cells B1:B11
= IRR(B1:B11) displays 32.8%
If RATE is used, a ‘guess’ is necessary. For example
= RATE(10,225000,-650000,70000,,20%) displays 32.8%
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