Nader International is considering investing in two assets-A and B. The initial outlay, annual cash flows, and annual depreciation for each asset appears in the table below for the assets' assumed five-year lives. Nader will use straight-line depreciation over each asset's five-year life. The firm requires a 12 percent return on each of those equally risky assets. Nader's maximum payback period is 2.5 years, its maximum discounted payback period is 3.25 years, and its minimum accounting rate of return is 30 percent.
| |
Asset A
$200,000
|
Asset B
$180,000
|
|
Initial Outlay (CFo) Year (t)
|
Cash Flow (CFt)
|
Depreciation |
Cash Flow (CFt)
|
Depreciation |
|
1
|
$ 70,000
|
$40,000
|
$80,000
|
$36,000
|
|
2
|
80,000
|
40,000
|
90,000
|
36,000
|
|
3
|
90,000
|
40,000
|
30,000
|
36,000
|
|
4
|
90,000
|
40,000
|
40,000
|
36,000
|
|
5
|
100,000
|
40,000
|
40,000
|
36,000
|
a. Calculate the accounting rate of return from each asset, assess its acceptability, and indicate which asset is best, using the accounting rate of return.
b. Calculate the payback period for each asset, assess its acceptability, and indicate which asset is best, using the payback period.
c. Calculate the discounted payback for each asset, assess its acceptability, and indicate which asset is best, using the discounted payback.
d. Compute and contrast your findings in parts (a), (b), and (c). Which asset would you recommend to Nader, assuming that they are mutually exclusive? Why?