Question

18. Comparing Investment Criteria Consider the following cash flows of two mutually exclusive projects for Tokyo Rubber Company. Assume the discount rate for both projects is 8 percent. Year Dry Prepreg Solvent Prepreg -$1,700,000 1,100,000 900,000 --$750,000 375,000 600,000 390,000 750,000 a. Based on the payback period, which project should be taken? b. Based on the NPV, which project should be taken? c. Based on the IRR, which project should be taken? d. Based on this analysis, is incremental IRR analysis necessary? If yes, please conduct the analysis. C I L A 10

Answer 1

Pay Back Prod Time kahen to earn the Initial Ontlay spent on the Projet Dary Prepruar $1100000 Intial Outlay - Cash Inflous $ 1100 000 $900000 $150000. Pay back period is in betmen year! & year 2 Earungs Clash inflow) for year 2 $900000 Cash Inflons per month - $900000 = 78000 12 No. of months to get Cash inflom of 600000 = 600000 , 8 months 15000 Pay Back Perriod - l year & months.

sohent Preprug Tuitial Onllay - $150000 Cash Infloms To H C000 600 000 $390000 Payback period falls in belemeen Year 1 & 2 Caak doku to y 2 = + boъото Cashflours per month = $ 6ooooo - $50000. 12 Tuntial Outlay - Yeart Cash flours $150000 - $315000 - $315000 No. of months to get $315000 = 375000 = 1.5 months S0000 Pay Back Plurad = lyear 7.5 months Based on Pay Back Period solvent Prepug project needs to taken as it has a comer Pay Back Period.

NPV Analips Discont kake Duy Prepang – 8 r. 1 2 3 Year Cash Outlay Cash Inflows 0 $1700000 - 1100000 900000 150000 $900000 $150000 Total Cashflours $1100000 & 1100000 Present Value factor @ 87 Cool 0.93 0.66 0.19 l aiton ] ( 1480) (1 78177) (128x)) ((1+8+.73) 114000 592500 PV of Cashfloms 1700000 1028000 Cashflows x PN fin 1o0o0o XI) (100000 x1 0.93 ) factar) P 900000 X 1 0.86 / 750000 x 0.19 689500 Net Present Value of Cashfloms

2 3 Solvent Prepung NPV Analyse Year 0 1 Cash Outlay – $150000 – Cash Inflours - $315000 Total Cash flours - $150000 $315000 Present Value factor @8% 1 0.93 $600000 $ 600000 0.86 $390000 $390000 0.79 [/leton ] [/C+8:0} ["(ta:] [1/(1+8+7] (/(1+ex.}} Present Value _ $150000 $346750 4516000 $308100 of cash flours Cashflow x 2 - 150000+ 1/375000* 1/600000 x 1/390000) (pv factor J 0.93 0.66 x0.19) Net Present of Cashflows - $750000 $348150 $816000 $308100 $ 422850 Based on NPV Analyse Dry Prepung needs to be kaken up as it has tugher Now of Cashflours

Internal Rate of Retwen Analysu Dry Prepug Internal Race of Ret nen is the discount rate at which Nevis zuo or Cash ontlay equals lash inflours. - 8 31%. Internal fake of Return solvent Prepug 150cc = 31600 (ants). Corom (.) 4 Paper/ batis) Internal Rate of Return = 37%. As per IRR analipu solvent Prepug needs to be taken up.

cremental IRR would be applicable in case of two investments with auffnent investment outlays. It is checked by computing the IRR fa innemental ола Коми Here, Dry Prepreg has higher inwestment outlay. compared to solvent Prepreg hence incrementaal IRR can be used Deyprepreg - $1100000 $1100000 900000 150000 Solvent Repreg - $150000 $315000 600000 390 000 Incremetal $-950000 $725000 $300000 $360000 $ asoc0o = 125cco (6) + Sovevo (15) + zlour (otos) Intanal Rate of filmen - 26%. for Incremental Cashflows - Since Incemental IRR is less than IRR of higher investment! option. Hence day Prepeeg null be consided from Incemental Cashflown & IRR analipun.