Question

U3 Company is considering three long-term capital investment proposals. Each investment has a useful life of 5 years. Relevant data on each project are as follows.

		Project Bono		Project Edge		Project Clayton
Capital investment		$164,800		$180,250		$204,000
Annual net income:
Year  1		14,420		18,540		27,810
2		14,420		17,510		23,690
3		14,420		16,480		21,630
4		14,420		12,360		13,390
5		14,420		9,270		12,360
Total		$72,100		$74,160		$98,880

Depreciation is computed by the straight-line method with no salvage value. The company’s cost of capital is 15%. (Assume that cash flows occur evenly throughout the year.)

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Part 1

Compute the cash payback period for each project. (Round answers to 2 decimal places, e.g. 10.50.)

Project Bono		enter the cash payback period in years for the project rounded to 2 decimal places	years
Project Edge		enter the cash payback period in years for the project rounded to 2 decimal places	years
Project Clayton		enter the cash payback period in years for the project rounded to 2 decimal places	years

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Part 2

Compute the net present value for each project. (Round answers to 0 decimal places, e.g. 125. If the net present value is negative, use either a negative sign preceding the number eg -45 or parentheses eg (45). For calculation purposes, use 5 decimal places as displayed in the factor table provided.)

		Project Bono		Project Edge		Project Clayton
Net present value		$enter a dollar amount rounded to 0 decimal places		$enter a dollar amount rounded to 0 decimal places		$enter a dollar amount rounded to 0 decimal places

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Part 3

Compute the annual rate of return for each project. (Hint: Use average annual net income in your computation.) (Round answers to 2 decimal places, e.g. 10.50.)

		Project Bono		Project Edge		Project Clayton
Annual rate of return		enter a percentage number rounded to 2 decimal places%		enter a percentage number rounded to 2 decimal places%		enter a percentage number rounded to 2 decimal places%

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Part 4

Rank the projects on each of the foregoing bases. Which project do you recommend?

Project		Cash Payback		Net Present Value		Annual Rate of Return
Bono		select a rank of the project132 132		select a rank of the project231 231		select a rank of the project321 321
Edge		select a rank of the project132 132		select a rank of the project123 123		select a rank of the project123 123
Clayton		select a rank of the project132 132		select a rank of the project123 123		select a rank of the project123 123

The best project is select the best projectBonoClaytonEdge Bono EdgeClayton.

Answer 1

The first step is to calculate cash flows each year by adding the depreciation to the annual net income:
	Project Bono		Project Edge			Project Clayton
Capital investment	$         1,64,800		$       1,80,250			$      2,04,000
	Annual Net Income	Annual Cash Flow	Annual Net Income	Annual Cash Flow	Cumulative Cash Flow	Annual Net Income	Annual Cash Flow	Cumulative Cash Flow
Year  1	$             14,420	$           47,380	$           18,540	$          54,590	$             54,590	$          27,810	$           68,610	$            68,610
2	$             14,420	$           47,380	$           17,510	$          53,560	$          1,08,150	$          23,690	$           64,490	$        1,33,100
3	$             14,420	$           47,380	$           16,480	$          52,530	$          1,60,680	$          21,630	$           62,430	$        1,95,530
4	$             14,420	$           47,380	$           12,360	$          48,410	$          2,09,090	$          13,390	$           54,190	$        2,49,720
5	$             14,420	$           47,380	$             9,270	$          45,320	$          2,54,410	$          12,360	$           53,160	$        3,02,880
Total	$             72,100	$        2,36,900	$           74,160	$      2,54,410		$          98,880	$        3,02,880
Part 1-Cash payback period in years:
Project Bono [164800/47380]	3.48	Years
Project Edge = 3+(180250-160680)/48410 =	3.40	Years
Project Clayton = 3+(204000-195530)/54190 =	3.16	Years
Part 2- NPV:	Project Bono			Project Edge			Project Clayton
Year  1	Annual Cash Flow	PVIF at 15%	PV at 15%	Annual Cash Flow	PVIF at 15%	PV at 15%	Annual Cash Flow	PVIF at 15%	PV at 15%
2	$             47,380	0.86957	$           41,200	$          54,590	0.86957	$          47,470	$           68,610	0.86957	$          59,661
3	$             47,380	0.75614	$           35,826	$          53,560	0.75614	$          40,499	$           64,490	0.75614	$          48,764
4	$             47,380	0.65752	$           31,153	$          52,530	0.65752	$          34,539	$           62,430	0.65752	$          41,049
5	$             47,380	0.57175	$           27,090	$          48,410	0.57175	$          27,679	$           54,190	0.57175	$          30,983
Total	$             47,380	0.49718	$           23,556	$          45,320	0.49718	$          22,532	$           53,160	0.49718	$          26,430
Total PV of cash inflows			$       1,58,825			$      1,72,719			$       2,06,887
Less: Initial investment			$       1,64,800			$      1,80,250			$       2,04,000
NPV			$           -5,975			$           -7,531			$             2,887
Part 3 - Annual rate of return:
Average annual income			$           14,420			$          14,832			$          19,776
Investment			$       1,64,800			$      1,80,250			$       2,04,000
Annual rate of return			8.75%			8.23%			9.69%
Part 4
Project		Cash Payback		Net		Annual
				Present Value		Rate of Return
Bono		3		2-Rejected		2
Edge		2		3-Rejected		3
Clayton		1		1		1
BEST PROJECT IS CLAYTON

Answer 2

Annual rate of return  P. Bono  (17.50)  P.Edge (16.46) P.Clayton (19.39)

Average annual income/(Initial Investment+0)/2