Consider the following two mutually exclusive projects: Year Cash Flow (A) Cash
ID: 2728820 • Letter: C
Question
Consider the following two mutually exclusive projects: Year Cash Flow (A) Cash Flow (B) 0 –$ 344,000 –$ 49,000 1 51,000 24,600 2 71,000 22,600 3 71,000 20,100 4 446,000 15,200 Whichever project you choose, if any, you require a 15 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
c-1) NPV of Project A
= P.V. of cash inflow - P.V. of cash outflow
i) P.V. of cash inflow = 51000 * P.V. factor for first year @ 15 % + 71000 * P.V. factor for second year @ 15 % + 71000 * P.V. factor for third year @ 15 % + 446000 * P.V. factor for fourth year @ 15 %
= 51000 * 0.87 + 71000 * 0.756 + 71000 * 0.657 + 446000* 0.572
= $ 399805
ii) P.V. of cash outflow = $ 344000
NPV of Project A:- = 399805 - 344000 = $ 55805
(NOTE;)- The cash inflow of fourth year for Project A is taken as $ 446000 as appearing in the question.
c-1) NPV of Project B
= P.V. of cash inflow - P.V. of cash outflow
i) P.V. of cash inflow = 24600 * P.V. factor for first year @ 15 % + 22600 * P.V. factor for second year @ 15 % + 20100 * P.V. factor for third year @ 15 % + 15200 * P.V. factor for fourth year @ 15 %
= 24600 * 0.87 + 22600 * 0.756 + 20100 * 0.657 + 15200* 0.572
= $ 60388 (approx)
ii) P.V. of cash outflow = $ 49000
NPV of Project B:- = 60388 - 49000 = $ 11388
Conclusion:- Project A is to be choosen as The NPV of project A is greater than the Project B.
e-1) Profitability index (PI) = P.V. of cash inflow / P.V. of cash outflow
Project A = 399805 / 344000 = 1.16
Project B = 60388 / 49000 = 1.23
Conclusion- Project B is to be choosen as the Profitability index (PI) of project B is greater than the Project A.
a-1) Payback period
Project A
Payback period of project A lies between 3 and 4 years, thus, pay-back by interpolation:-
= 3 + (344000 - 193000) / 446000 = 3 + 151000 / 446000 = 3.34 Years (approx).
Project B
Payback period of Project B lies between 2 and 3 years, thus, pay-back by interpolation:-
= 2 + (49000 - 47200) / 20100 = 2 + 1800 / 20100 = 2.09 Years (approx)
Conclusion:- Project B is to be choosen as per payback period concept as because Project B is having Low payback period.
F) Finally, We will choose Project A because the ultimate selection will be based on project having highest NPV as the NPV takes into account both the quality and the scale of the investment.
Year Cash inflow Cumulative cash inflow 1 51000 51000 2 71000 122000 3 71000 193000 4 446000 639000