Question

All techniques with NPV profile - Mutually exclusive projects Projects A and B, of equal risk, are alternatives for expanding Rosa Company's capacity. The firm's cost of capital is 16%. The cash flows for each project are shown in the following table: PF a. Calculate each project's payback period. b. Calculate the net present value (NPV) for each project. c. Calculate the internal rate of return (IRR) for each project. d. Indicate which project you would recommend. a. The payback period of project Ais years. (Round to two decimal places.) The payback period of project Bis I years. (Round to two decimal places.) b. The NPV of project Ais $ . (Round to the nearest cent.) The NPV of project B is $ . (Round to the nearest cent.) C. The IRR of project Ais %. (Round to two decimal places.) The IRR of project Bis %. (Round to two decimal places.) d. Which project will you recommend? (Select the best answer below.) O A. Project B O B. Project A

Answer 1

a. Payback Period Project A= ( Last Year with a Negative Cash Flow ) + [( Absolute Value of negative Cash Flow in that year)/ Total Cash Flow in the following year)]

= 3+(30000/70000)

= 3.43 years

Answer = 3.43 years

Note:

Year	Investment	Cash Inflow	Net Cash Flow
0	-2,10,000.00	-	-2,10,000.00	(Investment + Cash Inflow)
1	-	55,000.00	-1,55,000.000	(Net Cash Flow + Cash Inflow)
2	-	60,000.00	-95,000.000	(Net Cash Flow + Cash Inflow)
3	-	65,000.00	-30,000.000	(Net Cash Flow + Cash Inflow)
4	-	70,000.00	40,000.000	(Net Cash Flow + Cash Inflow)
5	-	75,000.00	1,15,000.000	(Net Cash Flow + Cash Inflow)

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Project B Payback Period = 3+(15000/55000)

= 3.27 Years

Answer = 3.27 Years

Note:

Year	Investment	Cash Inflow	Net Cash Flow
0	-1,80,000.00	-	-1,80,000.00	(Investment + Cash Inflow)
1	-	55,000.00	-1,25,000.000	(Net Cash Flow + Cash Inflow)
2	-	55,000.00	-70,000.000	(Net Cash Flow + Cash Inflow)
3	-	55,000.00	-15,000.000	(Net Cash Flow + Cash Inflow)
4	-	55,000.00	40,000.000	(Net Cash Flow + Cash Inflow)
5	-	55,000.00	95,000.000	(Net Cash Flow + Cash Inflow)

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b. NPV = Present Value of cash Inflows - Present Value of cash Outflows

Project A NPV = [55000*1/(1.16)^1+60000*1/(1.16)^2+65000*1/(1.16)^3+70000*1/(1.16)^4+75000*1/(1.16)^5]-210000

= - $ 1,984.83  

Answer = - $ 1,984.83  

Project B NPV = [55000*1/(1.16)^1+55000*1/(1.16)^2+55000*1/(1.16)^3+55000*1/(1.16)^4+55000*1/(1.16)^5]-180000

= $ 86.15

Answer = $ 86.15

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c. Project A:

Let the IRR be x.

Now , Present Value of Cash Outflows=Present Value of Cash Inflows

210,000 = 55000/(1.0x) +60000/ (1.0x)^2 +65000/(1.0x)^3+ 70000/(1.0x)^4+75000/(1.0x)^5   

Or x= 15.62%

Hence the IRR is 15.62%

Project B

Let the IRR be y.

Now , Present Value of Cash Outflows=Present Value of Cash Inflows

180000=55000/(1.0y) + 55000/ (1.0y)^2  + 55000/(1.0y)^3 +  55000/(1.0y)^4 +  55000/(1.0y)^5

Or y= 16.02%

Hence the IRR is 16.02%

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d. The project with the higher and positive NPV is chosen.

Answer = Project B