Question

A company has two projects: Beta and Gamma.

Project Beta Project Beta is an investment in machinery. Initial investment paid was £20,000 at the

start of the project and it has been estimated there will be nil scrap value at the end. Cost of

capital has been estimated as 25%.

Year	Cash inflows (£)
1	4,000
2	8,000
3	14,000
4	20,000
5	18,000

Project Gamma

Project Gamma is another investment in machinery. It has the following information:

Yearly cash inflows £ 20 000 per year

Cost of initial investment £ 50 000

Useful life 5 years

Scrap value nil

Additional Information: Extracts from net present value tables

Year	25%	50%
1	0.800	0.667
2	0.640	0.445
3	0.512	0.297
4	0.410	0.198
5	0.328	0.132

(a) For Project Beta calculate the following:

i. Payback Period (PBP)

ii. Net Present Value (NPV)

iii. Internal Rate of Return (IRR) using formula

(b) For Project Gamma calculate the Accounting Rate of Return (ARR), based on average

accounting profits and the average investment.

(c) Briefly explain the ‘cost of capital’.

(d) Briefly explain the ‘time value of money

Answer 1