3) After the examine the three approaches, Amanda would like Han to analyze the financial viability of the new plant and calculate the profitability index, NPV, and IRR.
Calculation of discounted cash inflows
Year 1 | Year 2 | Year 3 | Year 4 | Year 5 | Year 6 | Year 7 | Year 8 | |
Sales | 17 | 28 | 37 | 40 | 43 | 44 | 45 | 46 |
Less Variable cost | 11.05 | 18.2 | 24.05 | 26 | 27.95 | 28.6 | 29.25 | 29.9 |
Less Fixed cost | 2.4 | 2.4 | 2.4 | 2.4 | 2.4 | 2.4 | 2.4 | 2.4 |
Net cash inflow | 3.55 | 7.4 | 10.55 | 11.6 | 12.65 | 13.02 | 13.41 | 13.81 |
PVIF @12% | 0.893 | 0.797 | 0.712 | 0.636 | 0.567 | |||
Discounted cash inflow | 3.17 | 5.89 | 7.51 | 7.38 | 7.17 | |||
Total Discounted cash inflows=3.17+5.89+7.51+7.38+7.17=31.12 m
Calculation of Profitability Index
Profitability index =Sum of discounted cash inflows /Total discounted cash outflow
=31.12/54+(31*.893)
=31.12/54+27.68
=31.12/81.68
=0.38
Calculation of NPV=Discounted cash infloes -initial cash outflows
=31.12-8.68= -50.56 million
Therefore NPV is negative
Calculation of IRR
Since cash inflows from project are not equal we have to calculate IRR By trial and error method
PVIF @2%
Year | Cash Inflow | r=2% | PVIF @2% | r= 5% | PVIF 5% |
1 | 3.55 | 0.980 | 3.48 | 0.952 | 3.38 |
2 | 7.4 | 0.961 | 7.11 | 0.907 | 6.71 |
3 | 10.55 | 0.942 | 9.94 | 0.863 | 9.10 |
4 | 11.6 | 0.924 | 10.72 | 0.822 | 9.53 |
5 | 12.65 | 0.906 | 11.46 | 0.783 | 9.90 |
6 | 13.02 | 0.888 | 11.56 | 0.746 | 9.71 |
7 | 13.41 | 0.870 | 11.67 | 0.710 | 9.52 |
8 | 13.81 | 0.853 | 11.78 | 0.676 | 9.39 |
total | 0.837 | 11.89 | 0.645 | 9.16 | |
89.61 | 76.4 |
The IRR is more than 2 % but less than 5%
IRR=[2+(89.61-85/89.61-76.40*3)]
IRR=3.05%
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