Consider the following two mutually exclusive projects: Year Cash Flow (A) Cash
ID: 2728483 • Letter: C
Question
Consider the following two mutually exclusive projects: Year Cash Flow (A) Cash Flow (B) 0 –$ 357,000 –$ 46,500 1 38,000 23,300 2 58,000 21,300 3 58,000 18,800 4 433,000 13,900 Whichever project you choose, if any, you require a 14 percent return on your investment. a-1
What is the payback period for each project? (Do not round intermediate calculations and round your answers to 2 decimal places, e.g., 32.16.)
Payback period Project A years
Project B years a
2 If you apply the payback criterion, which investment will you choose?
Project A Project
B b-1
What is the discounted payback period for each project? (Do not round intermediate calculations and round your answers to 2 decimal places, e.g., 32.16.)
Discounted payback period
Project A years
Project B years
b-2 If you apply the discounted payback criterion, which investment will you choose?
Project A
Project B c-1
What is the NPV for each project? (Do not round intermediate calculations and round your answers to 2 decimal places, e.g., 32.16.)
NPV Project A $
Project B $
c-2 If you apply the NPV criterion, which investment will you choose?
Project A
Project B
d-1 What is the IRR for each project? (Do not round intermediate calculations. Enter your answers as a percent rounded to 2 decimal places, e.g., 32.16.)
IRR Project A %
Project B %
d-2 If you apply the IRR criterion, which investment will you choose?
Project A
Project B
e-1 What is the profitability index for each project? (Do not round intermediate calculations and round your answers to 3 decimal places, e.g., 32.161.)
Profitability index Project A
Project B
e-2 If you apply the profitability index criterion, which investment will you choose? Project A Project B f. Based on your answers in (a) through (e), which project will you finally choose?
Explanation / Answer
A
Year
Cash flow
Cumulative cash flow
0
-357000
-357000
1
38000
-319000
2
58000
-261000
3
58000
-203000
4
433000
433000
Payback period=3 + 203000/433000
Payback period
3.46 years
B
Year
Cash flow
Cumulative cash flow
0
-46500
-46500
1
23300
-23200
2
21300
-1900
3
18800
16900
4
13900
30800
Payback period=2+1900/18800
Payback period
2.10 years
2. Project B as it has a shorter payback period
A
Year
Cash flow
Disconted cash flow
Disccounted cash flow
Cumulative discounted cash flow
0
-357000
357000
357000
-357000
1
38000
38000/(1+.14)
33333.33333
-323666.6667
2
58000
58000/(1+.14)^2
44629.11665
-279037.55
3
58000
58000/(1+.14)^3
39148.34794
-239889.2021
4
433000
433000/(1+.14)^4
256370.7601
16481.55803
Pay back period=3 + 239889.20/256370.76
Pay back period
3.93 years
B
Year
Cash flow
Disccounted cash flow
Discounted cash flow
Cumulative discounted cash flow
0
-46500
-46500
-46500
-46500
1
23300
23300/(1+.14)
20438.59649
-26061.40351
2
21300
21300/(1+.14)^2
16389.65836
-9671.745152
3
18800
18800/(1+.14)^3
12689.4645
3017.719352
4
13900
13900/(1+.14)^4
8229.915855
11247.63521
Payback period=2+9671.7451/12689.4645
Payback period
2.76 years
4.Project B as it has a shorter discounted payback period
5. NPV criteria On the basis of NPV, Project A will be selected as it has a greater NPV.
c
Year
Cash flow
Present value
Present Value
0
-357000
-357000
-357000
1
38000
38000/(1+.14)
33333.33333
2
58000
58000/(1+.14)^2
44629.11665
3
58000
58000/(1+.14)^3
39148.34794
4
433000
433000/(1.14)^4
256370.7601
NPV
16481.55803
NPV=Present value of cash inflows-Present value of cash outflows
B
Year
Cash flow
Present Value
Present Value
0
-46500
-46500
-46500
1
23300
23300/(1+.14)
20438.59649
2
21300
21300/(1+.14)^2
16389.65836
3
18800
18800/(1+.14)^3
12689.4645
4
13900
13900/(1+.14)^4
8229.915855
NPV
11247.63521
IRR criteria –IRR is the rate at which NPV is zero
IRR=Rate at which present value of cash inflows is equal to present value of cash outflow
0=CF1/ (1+r) ^1……………………CFN/(1+r)^n - CFW
CF1…..CFn=Cash inflows from year 1 till year n
CFW=Cash outflow
Project A
0=38000/ (1+r) +58000/ (1+r) ^2+58000/ (1+r) ^3+433000/ (1+r) ^4-357000
r=16%
Project B
0=23300/ (1+r) +21300/ (1+r) ^2+18800/ (1+r) ^3+13900/ (1+r) ^4-46500
r =26%
Project B has a higher IRR , hence it should be selected.
Profitability index=Present Value of cash inflows/Present value of cash outflows
Project A
PI=373481.6/357000=1.046
Project B
PI=1.24
Project B should be selected as it has a greater PI.
For present values please use the data used in discounted payback and NPV calculations
Project B has more points in favour ,hence it should be selected
A
Year
Cash flow
Cumulative cash flow
0
-357000
-357000
1
38000
-319000
2
58000
-261000
3
58000
-203000
4
433000
433000
Payback period=3 + 203000/433000
Payback period
3.46 years
B
Year
Cash flow
Cumulative cash flow
0
-46500
-46500
1
23300
-23200
2
21300
-1900
3
18800
16900
4
13900
30800
Payback period=2+1900/18800
Payback period
2.10 years