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    Capital Budgeting - Norwich Tools

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    I need help with C.

    Norwich Tool, a large machine shop, is considering replacing one of its lathes with either of two new lathes?lathe A or lathe B. Lathe A is a highly automated, computer-controlled lathe; lathe B is a less expensive lathe that uses standard technology. To analyze these alternatives, Mario Jackson, a financial analyst, prepared estimates of the initial investment and incremental (relevant) cash inflows associated with each lathe. These are shown in the following table.

    Lathe A Lathe B
    Initial investment (CF0) $660,000 $360,000
    Year (t) Cash inflows (CFt)
    1 $128,000 $ 88,000
    2 182,000 120,000
    3 166,000 96,000
    4 168,000 86,000
    5 450,000 207,000

    Note that Mario plans to analyze both lathes over a 5-year period. At the end of that time, the lathes would be sold, thus accounting for the large fifth-year cash inflows.

    One of Mario's dilemmas centered on the risk of the two lathes. He believes that although the two lathes are equally risky, lathe A has a much higher chance of breakdown and repair because of its sophisticated and not fully proven solid-state electronic technology. Mario is unable to quantify this possibility effectively, so he decides to apply the firm's 13% cost of capital when analyzing the lathes. Norwich Tool requires all projects to have a maximum payback period of 4.0 years

    Problem:

    a)Use the payback period to assess the acceptability and relative ranking of each lathe.
    b) Assuming equal risk, use the following sophisticated capital budgeting techniques to assess the acceptability and relative ranking of each lathe:
    1. Net present value (NPV).
    2. Internal rate of return (IRR).

    c) Summarize the preferences indicated by the techniques used in parts a and b, and indicate which lathe you recommend, if either, (1) if the firm has unlimited funds and (2) if the firm has capital rationing.

    Please indicate which is A, B & C

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    https://brainmass.com/business/capital-budgeting/capital-budgeting-norwich-tools-197172

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    Norwich Tool, a large machine shop, is considering replacing one of its lathes with either of two new lathes?lathe A or lathe B. Lathe A is a highly automated, computer-controlled lathe; lathe B is a less expensive lathe that uses standard technology. To analyze these alternatives, Mario Jackson, a financial analyst, prepared estimates of the initial investment and incremental (relevant) cash inflows associated with each lathe. These are shown in the following table.

    Lathe A Lathe B
    Initial investment (CF0) $660,000 $360,000
    Year (t) Cash inflows (CFt)
    1 $128,000 $ 88,000
    2 182,000 120,000
    3 166,000 96,000
    4 168,000 86,000
    5 450,000 207,000

    Note that Mario plans to analyze both lathes over a 5-year period. At the end of that time, the lathes would be sold, thus accounting for the large fifth-year cash inflows.
    One of Mario's dilemmas centered on the risk of the two lathes. He believes that although the two lathes are equally risky, lathe A has a much higher chance of breakdown and repair because of its sophisticated and not fully proven solid-state electronic technology. Mario is unable to quantify this possibility effectively, so he decides to apply the firm's 13% cost of capital when analyzing the lathes. Norwich Tool requires all projects to ...

    Solution Summary

    The solution explains the calculation of NPV and IRR for lathe selection.

    $2.19

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