Question

Norton, Inc has $800,000 to invest and is considering two projects with cash flows over a 10year planning horizon estimated to be as follows:

Project A Project B Initial Investment $800,000 $700,000 Annual Profit $135,000 $120,000 MARR is 10% per year compounded annually. The company can choose to invest in one of these projects or decide not to invest in either project. What is your recommendation for the company? Solve using the benefit-cost ratio analysis.

Answer 1

Given,

MARR = 10% per year

Planning horizon = 10 years

From the compound interest factor table, we obtain

(A/P, 10%, 10) = 0.1627

Project A:

Initial investment = $800,000

Annualized investment cost = $800,000*(A/P, 10%, 10) = $800,000*0.1627 = $130,160

Annual profit = $135,000

B/C Ratio = Annual profit/Annualized cost = $135,000/$130,160 = 1.037

Project B:

Initial investment = $700,000

Annualized investment cost = $700,000*(A/P, 10%, 10) = $700,000*0.1627 = $113,890

Annual profit = $120,000

B/C Ratio = Annual profit/Annualized cost = $120,000/$113,890 = 1.054

Recommendation:

The B/C ratios of both the projects are higher than 1. Therefore, both the projects are economically feasible and are better than 'Do Nothing' option. It is observed that the B/C ratio of project B is higher among the given projects. Hence, project B is recommended.