The Board of Directors for Colton Industries, a diversified manufacturer of fiberglass
products, is considering a proposal by the CEO to sell the firm’s boat manufacturing division.
An anonymous buyer has offered through a business broker to purchase the boat division
from Colton for $50 million. Since the book value of the boat division is also $50 million,
there would be no taxes on the sale. Boat sales in the upcoming fiscal year are expected to be
$40 million. However, yearly sales have been declining steadily at a rate of 4 percent per
year. The CFO believes that the trend in boat sales cannot be reversed, and that sales in the
boat division will continue to decline in perpetuity at a rate of 4 percent per year due to
relentless competition from foreign manufacturers located in Paraguay. As further evidence
supporting the proposed sale, the CEO notes that Colton’s profit margin on boat sales is only
15 percent (of sales). The CFO has argued that selling the boat division is not attractive
because the proposed sale has an internal rate of return that is less the firm’s opportunity cost
of capital of 10 percent. Assuming that Colton has a marginal tax rate of 30 percent,
a. determine the internal rate of return for the proposed sale
b. explain whether Board should approve the sale of the boat division
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