Question

Following is information on two alternative investments being considered by Tiger Co. The company requires a 4% return from its investments. (PV of $1, FV of $1, PVA of $1, and FVA of $1) (Use appropriate factor(s) from the tables provided.)

	Project X1					Project X2
Initial investment		$	(80,000	)			$	(120,000	)
Expected net cash flows in year:
1			25,000					60,000
2			35,500					50,000
3			60,500					40,000

  
a. Compute each project’s net present value.
b. Compute each project’s profitability index. If the company can choose only one project, which should it choose?

Answer 1

Answer-a)- The net present value of Project X1 = $30645.

Explanation-

Calculation of Project X1 Net Present Value
	Net Cash Flows $ (a)	Present Value of 1 at 4% (b)	Present Value of cash flows (c=a*b) $
Year 1	25000	0.9615	24038
Year 2	35500	0.9246	32823
Year 3	60500	0.8890	53785
Totals
Total present value of cash inflow (a)			110645
Total cash outflow (b)	80000	1	80000
Net Present Value $ (c=a-b)			30645

The net present value of Project X2 = $19480.

Explanation-

Calculation of Project X2 Net Present Value
	Net Cash Flows $ (a)	Present Value of 1 at 4% (b)	Present Value of cash flows (c=a*b) $
Year 1	60000	0.9615	57690
Year 2	50000	0.9246	46230
Year 3	40000	0.8890	35560
Totals
Total present value of cash inflow (a)			139480
Total cash outflow (b)	120000	1	120000
Net Present Value $ (c=a-b)			19480

b)-

Calculation of Project Profitability Index
Particulars	Projects
	X1	X2
Net Present Value $ (A)	30645	19480
Investment required $ (B)	80000	120000
Profitability Index C=A/B	0.38	0.16

If the company can choose only one project, Project X1 should be choose.