All techniques - Derision among mutually exclusive investments Pound Industries

Question

All techniques - Derision among mutually exclusive investments Pound Industries is attempting to select the best of three mutually exclusive projects. The initial investment and after - tax cash inflows associated with these projects are shown in the following table. Calculate the pay back period for each project. Calculate the net present value (NPV) of each project, assuming that the firm has a cost of capital equal to 8% Calculate the internal rate of return (IBR) for each project. Indicate which project you would recommend. The payback period of project A is years. (Round to two decimal places.) The payback period of project B is years (Round to tw o decimal places.)

Explanation / Answer

a) Payback period

Project A

Payback period is the time by which undiscounted cashflow cover the intial investment outlay

this is happening between year 3 and 4

there fore payback period = 3 + (0-(-10000))/(30000-(-10000)) = 3.25 years

Project B

Payback period is the time by which undiscounted cashflow cover the intial investment outlay

this is happening between year 3 and 4

there fore payback period = 3 + (0-(-4000))/(48000-(-4000)) = 3.08years

Project C

Payback period is the time by which undiscounted cashflow cover the intial investment outlay

this is happening between year 3 and 4

there fore payback period = 3 + (0-(-1000))/(52000-(-1000)) = 3.02years

b

Project A

Project B

Project C

c

Project A

Project B

Project C

d . Project C as it as highest NPV

Year Cash flow stream Cumulative cash flow 0 -130000 -130000 1 40000 -90000 2 40000 -50000 3 40000 -10000 4 40000 30000 5 40000 70000

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