Question

NET PRESENT VALUE

Simon company is considering two investments, Project A an Project B.

They require a 9% return from investments.

The initial investment for project A is $250,000.

The initial investment for project B is $525,000.

The expected cash flows from each project are below.

a. Compute the NPV (Net Present Value) for each project.

b. Compute the profitability index for for each project.

c. Which project do you recommend?

Year Project A Project B

1 115,000 170,000

2 94,000 145,000

3 75,000 115,000

4 52,000 98,000

5 47,000 75,000

Answer 1

Answer :-a)- The Net Present value of Project A =$59918

The Net Present value of Project B = ($40027)

Explanation:-

Calculation of Investment's Net Present Value
	Project A
	Net Cash Flows $ (a)	Present Value of 1 at 9% (b)	Present Value of cash flows (c=a*b) $
Year 1	115000	0.9174	105501
Year 2	94000	0.8417	79120
Year 3	75000	0.7722	57915
Year 4	52000	0.7084	36837
Year 5	47000	0.6499	30545
Totals
Total present value of cash inflow (a)			309918
Total cash outflow (b)	250000	1	250000
Net Present Value $ (c=a-b)			59918
Calculation of Investment's Net Present Value
	Project B
	Net Cash Flows $ (a)	Present Value of 1 at 9% (b)	Present Value of cash flows (c=a*b) $
Year 1	170000	0.9174	155958
Year 2	145000	0.8417	122047
Year 3	115000	0.7722	88803
Year 4	98000	0.7084	69423
Year 5	75000	0.6499	48743
Totals
Total present value of cash inflow (a)			484973
Total cash outflow (b)	525000	1	525000
Net Present Value $ (c=a-b)			-40027

b)- The profitability index for Project A 0.24

The profitability index for Project B (0.08)

Explanation:-

Calculation of Project Profitability Index
Particulars	Project Number
	A	B
Net Present Value $ (A)	59918	-40027
Investment required $ (B)	250000	525000
Profitability Index C=A/B	0.24	-0.08

c)- On the basis of above analysis project A should be selected.