Can you perform an IRR analysis on this project? How many IRRs would you expect to find?

Project Analysis and Inflation After extensive medical and marketing research, Pill, Inc., believes it
can penetrate the pain reliever market. It is considering two alternative products. The first is a
medication for headache pain. The second is a pill for headache and arthritis pain. Both products
would be introduced at a price of $7.75 per package in real terms. The headache-only medication is
projected to sell 3.2 million packages a year, whereas the headache and arthritis remedy would sell 4.9 million packages a year. Cash costs of production in the first year are expected to be $3.80 per package in real terms for the headache-only brand. Production costs are expected to be $4.35 in real terms for the headache and arthritis pill. All prices and costs are expected to rise at the general inflation rate of 3 percent.
Either product requires further investment. The headache-only pill could be produced using equipment costing $25 million. That equipment would last three years and have no resale value. The machinery required to produce the broader remedy would cost $34 million and last three years. The firm expects that equipment to have a $1 million resale value (in real terms) at the end of Year 3.
Pill, Inc., uses straight-line depreciation. The firm faces a corporate tax rate of 34 percent and believes that the appropriate real discount rate is 7 percent. Which pain reliever should the firm produce?
38. Calculating Project NPV J. Smythe, Inc., manufactures fine furniture. The company is deciding
whether to introduce a new mahogany dining room table set. The set will sell for $6,100, including a
set of eight chairs. The company feels that sales will be 1,900, 2,250, 2,700, 2,450, and 2,300 sets per
year for the next five years, respectively. Variable costs will amount to 37 percent of sales, and fixed
costs are $2.25 million per year. The new tables will require inventory amounting to 10 percent of
sales, produced and stockpiled in the year prior to sales. It is believed that the addition of the new table will cause a loss of 250 tables per year of the oak tables the company produces. These tables sell for $4,500 and have variable costs of 40 percent of sales. The inventory for this oak table is also 10 percent of sales. The sales of the oak table will continue indefinitely. J. Smythe currently has excess production capacity. If the company buys the necessary equipment today, it will cost $19 million. However, the excess production capacity means the company can produce the new table without buying the new equipment. The company controller has said that the current excess capacity will end in two years with current production. This means that if the company uses the current excess capacity for the new table, it will be forced to spend the $19 million in two years to accommodate the increased sales of its current products. In five years, the new equipment will have a market value of $3.1 million if purchased today, and $4.7 million if purchased in two years. The equipment is depreciated on a seven-year MACRS schedule. The company has a tax rate of 40 percent, and the required return for the project is 11 percent.1. Should J. Smythe undertake the new project?
2. Can you perform an IRR analysis on this project? How many IRRs would you expect to find?
3. How would you interpret the profitability index?
1. What is the profitability index of the project?
2. What is the IRR of the project?
3. At what OEM price would Goodweek Tires be indifferent to accepting the project? Assume the
replacement market price is constant.
4. At what level of variable costs per unit would Goodweek Tires be indifferent to accepting the project?

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