Question

Please do not work in excel and also please show your calculations.

FastTrack Bikes, Inc. is thinking of developing a new composite road bike. Development will take six years and the cost is $200,000 per year. Once in production, the bike is expected to make $300,000 (after expenses) per year for 10 years. The cash inflows begin at the end of year 7.

At FastTrack, there is a difference of opinion as to the "best" decision rule to use. The four rules under consideration are NPV, IRR, Payback Period and Profitability Index (PI).                                 

Additional Info: The firm's president has set a maximum acceptable payback period of 8 years for projects and the cost of capital appropriate for this project is 10%.

Using the end of year cash flows as shown in the table (see below), answer each of the following:

Year	Cash Flows
0	$0
1	-$200,000
2	-$200,000
3	-$200,000
4	-$200,000
5	-$200,000
6	-$200,000
7	$300,000
8	$300,000
9	$300,000
10	$300,000
11	$300,000
12	$300,000
13	$300,000
14	$300,000
15	$300,000
16	$300,000

Please highlight your final answer to make it easier for the graders

1a        What is the NPV of the project if the firm's cost of capital is 10%? (2 pts)                                    

1b        Should the project be accepted or rejected based on NPV and why? ( 1 pt)                                                

Note that while at first you may think that IRR isn't appropriate, note that there is only one sign change, when the cash flows go from negative 200,000 to positive 300,000. This means there is only 1 sign change and 1 IRR.                                               

2a        What is the IRR of the project? (2 pts)                                                         

2b        Should the project be accepted or rejected based on IRR and why? ( 1 pt)                          

3a        What is the Payback period of the project? (2 pts)                                                  

3b        Should the project be accepted or rejected based on Payback and why? (1 pt)                    

4a        What is the profitability index or PI of the project? (2 pts)                                                 

4b        Should the project be accepted or rejected based on PI and why? (1 pt)                              

5          If the firm's required rate of return increased, what would be the impact on each of the values?                                                     

5a Effect on NPV and why (2 pts):                                                       

5b Effect on IRR and why (2 pts):                                                         

5c Effect on Payback period and why (2 pts):                                                  

5d Effect on PI and why (2 pts):                                                

6 What factors affect NPV and IRR? For example: what might increase NPV and/or IRR as well as those factors which might decrease NPV/IRR. If the effects are different for IRR than for NPV, be sure to point that out. If a factor does not affect IRR, be sure to note that.

Answer 1

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a) classmate Year Cash flow Discounting factor 10 net is of t bxe og Cumulatie - 137 - Cash Flora -- $200.000 0.909 -181,820 -193,000---- .925 2 - $200,000 .0 0 0 .8265 -200.000 -166 300 1082-156 3 - $ 200,000 AC 7514_ -400,000 -150,280 693) -138620 - $200,000 - 600, . 6 31 - 136/670_16134 - 122680 - 200,000 - $200,000 -62.10 - 124,200 $426 -10RSO - 1000,000 6 - $ 200,000 5645 -112.9104804-96080 - 100.000 + + $300,000__.$132_153960 2 57_124,550. . 8 + 300,000 4b6 139,9503762 112840 - 600.000 9 $300.000 14241 127,230 3329 99870 - 3000000 D $ 300,000_ 3855 119650 2946 28380 01 4300.000 35051051502607 78.210 300,000 12 $300.000 .3186 9 Ssgp 2309 64280 600.000 13. $300.000 .28046 86,8802042 61250 | $300,000 -26 33 78,990 1200.000 • 1807 54200 $300,000 2394 15 71,820 1599 47970 1500,000 2176 to $300.000 65,280 4415 42450 1800000 169,390. -19630 Answers I( NPV of the Project ad 101 Cool of capital a Priprent value of inflower fuccsend value of Dufflew 169,3900 916 Yes, the projed NPV as the NPV should be accepted based on is posiline,