Consider the following two mutually exclusive projects: Year Cash Flow (A) Cash

Question

Consider the following two mutually exclusive projects:        Year Cash Flow (A) Cash Flow (B) 0 Consider the following two mutually exclusive projects:        Year Cash Flow (A) Cash Flow (B) 0 Consider the following two mutually exclusive projects:        Year Cash Flow (A) Cash Flow (B) 0 Consider the following two mutually exclusive projects:        Year Cash Flow (A) Cash Flow (B) 0 Consider the following two mutually exclusive projects:        Year Cash Flow (A) Cash Flow (B) 0 Consider the following two mutually exclusive projects:        Year Cash Flow (A) Cash Flow (B) 0 Consider the following two mutually exclusive projects:

Explanation / Answer

DIsc Payback Period (DPBP) for Proj A

CF from Y1 to Y3 = 36000/(1+14%) + 56000/(1+14%)^2 + 56000/(1+14%)^3

= $112,468

DCF for Y4 = 431000/(1+14%)^4 = $255,187

SO DPBP is in Y4 = 3 + (359000-112468)/$255,187 = 3.97 Yrs

DPBP For Proj B = CF from Y1 to Y3 = 23100/(1+14%) + 21100/(1+14%)^2 + 18600/(1+14%)^3

= $49,053

So DPBP is in Y3

So DCF for Y1 to Y2 = 23100/(1+14%) + 21100/(1+14%)^2 = $36,499

DCF for Y3 = 18600/(1+14%)^3 = $12,554

So DPBP = 2 + (45500-36499)/12554 = 2.72 Yrs

Profitability Index PI = PV of CFs/Initial Investment

SO PI(A) = (36000/(1+14%) + 56000/(1+14%)^2 + 56000/(1+14%)^3+431000/(1+14%)^4)/359000

= 1.024

PI(B) = (23100/(1+14%) + 21100/(1+14%)^2 + 18600/(1+14%)^3 +13700/(1+14%)^4)/45500

ie PI(B) = 1.256

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