Question

The treasurer of Amaro Canned Fruits, Inc. has projected the cash flows of projects A, B, and C as follows. The relevant discount rate is 12 percent. These projects are mutually exclusive Year 0 Project A -$90,000 70,000 70,000 Project B -$190,000 130,000 130,000 Project C -$90,000 75,000 60,000 Compute the NPV and IRR for each of the three projects and determine which you will do.

2)

LAM corporation is considering buying some software from IBM to help with the online sales from its website. The software package costs $850,000 and will be fully expensed in the year that it is purchased. It is predicted that the purchase of this software will directly result in an increase in sales of $500,000 during the first year it is used, and the increased sales will grow at a rate of 4% per year during years two, three, four, and five. It is expected that this software will be obsolete and need to be upgraded after five years. Cost of goods sold and operating expenses for LAM are 25% of sales each year. The additional business resulting from the software means that LAM needs an increase in net working capital of $25,000 immediately. This additional net working capital will be recovered in full at the end of the fifth year. The corporate tax rate for LAM is 21% and the required rate of return on it is 18%. What is the NPV and the IRR for the purchase of the new software?

Answer 1

The solution is as follows:

Solution to Question (2): 212) Year 1 2 3 4 5 Saler 500000 520000 540800 562432 58499.38 Less:COGS (125000) (130000) (135200) 640608) (146232.32) Gross : 375000 390000 405600 421824 438696.96 I Profit Lessi le petit (1 25000) (130000) (135200) (140608)/(46232-3) Net Profit 250000 260000 270400 281216 292464.64 Less:Tare (52500) (54600) (56784) (59055-35461417. stole PAT 197500205400 213616_22216064231047656

Year Inflow Outflow Nethlows Netflows discounted (Note 3) 100 7875000) (875000) (875000) 1 197500 0 197500 167372-8814 2 205400 0 205400 147515.0819 3 2136160 213616 130013.2925 4 222160-64 0 222160-64 114587.9866 5 356047.0656 0 256047.0656 111920.5322 (Note 2) NPV: -203590-2255 The NPV for the pwechase of the new software is 4-203590.2255.

- - | Year Netblows discounted @ 7%. Netflows discounted @8%. 184549.4393 182870.3704 179404.3148 1 176097. 3937 174374.2873 169575.268 169485.2886 163294.7025 182558.0195 174261. 3305 890401.3491 866099.0651 - I By Trial and Error Method, 2-7 - 875000-890901.3491 7-8 890401:3491-866099.0651 Lar, 2-7 - - 15401.3491 _ -1 24302:284 wit (2-7), 70.6337 er, 8-7= 0 66 0.6337 Lg x= 7+0.6337 er, X= 7.6 337 is X= 7.639%

... The IRR for the purchase of the new software es 7.63% . Note: d. We have used the following formule for discounting Cashflowe: We know that I F. Va P. v(ltijn ..P. V. for - (High where, ne Number of years it = Interest per year P.V. Present Value F-V= Future Value.

2. Yeave 5. 231047.0656 (PAT) + 25000 ( Net Working - Capital) = $256044.0656. 3. Year o Out flow = 850000 ( costs of 805 trocure Package) + 25000 (Net Working Capital) $875000