Capital Budgeting:
Historically, Grenada Broom’s Ltd. has contracted out delivery of its product but it is now considering purchasing a truck in order to make its own deliveries. The truck will cost $100,000 and will have operating costs of $6,000 per year. Grenada Broom’s Ltd. is currently paying $55,000 per year for delivery of its product. In addition, management believes that by having the ability to set its own delivery schedule, net sales revenues will increase by $25,000 per year. Grenada Broom’s Ltd. tax rate is 40%, its weighted average cost of capital is 15. The truck is expected to have a salvage value equal to 25% of its original cost at the end of its 10-year useful life.
Required
a. Calculate the payback period (PBP) for the purchase of the truck.
b. Using the net present value (NPV) method, determine if Broome Ltd. should purchase the truck. Show all calculations.
