Question

WACC =	2%
Period	Project 1	Project 2
0	-$150	-$60
1	$100	$50
2	$75	$35
3	$80
4
5
6

Based on the information in the table, what is the replacement chain NPV for Project 2?

Answer 1

As project 1 is of 3 years and 1 of 2 years the replacement will go on till project B reaches year 6. NPV is calculated below:

Project 2:

Year	CF	Discount Factor		Discounted CF
0	$ -60.00	1/(1+0.02)^0=	1	1*-60=	$   -60.00
1	$    50.00	1/(1+0.02)^1=	0.980392157	0.980392156862745*50=	$     49.02
2	35-60 = $ -25.00	1/(1+0.02)^2=	0.961168781	0.961168781237985*-25=	$   -24.03
3	$    50.00	1/(1+0.02)^3=	0.942322335	0.942322334547045*50=	$     47.12
4	35-60 = $ -25.00	1/(1+0.02)^4=	0.923845426	0.923845426026514*-25=	$   -23.10
5	$    50.00	1/(1+0.02)^5=	0.90573081	0.905730809829916*50=	$     45.29
6	$    35.00	1/(1+0.02)^6=	0.887971382	0.887971382186192*35=	$     31.08
				NPV = Sum of all Discounted CF	$ 172.50

In years 2 and 4 the project will be replaced

Replacement NPV for project 1 is given below:

Year	CF	Discount Factor		Discounted CF
0	$ -150.00	1/(1+0.02)^0=	1	1*-150=	$ -150.00
1	$    100.00	1/(1+0.02)^1=	0.980392157	0.980392156862745*100=	$      98.04
2	$      75.00	1/(1+0.02)^2=	0.961168781	0.961168781237985*75=	$      72.09
3	80-100 = $    -70.00	1/(1+0.02)^3=	0.942322335	0.942322334547045*-70=	$    -65.96
4	$    100.00	1/(1+0.02)^4=	0.923845426	0.923845426026514*100=	$      92.38
5	$      75.00	1/(1+0.02)^5=	0.90573081	0.905730809829916*75=	$      67.93
6	$      80.00	1/(1+0.02)^6=	0.887971382	0.887971382186192*80=	$      71.04
				NPV = Sum of all Discounted CF	$    401.48