Question

Consider the following two mutually exclusive projects:

  

Year	Cash Flow (A)				Cash Flow (B)
0	–$	360,000			–$	45,000
1		35,000				23,000
2		55,000				21,000
3		55,000				18,500
4		430,000				13,600

  

Whichever project you choose, if any, you require a 14 percent return on your investment.

  

a-1	What is the payback period for each project? (Do not round intermediate calculations and round your answers to 2 decimal places, e.g., 32.16.)

  

	Payback period
Project A	years
Project B	years

  

a-2	If you apply the payback criterion, which investment will you choose?
	Project A Project B

  

b-1	What is the discounted payback period for each project? (Do not round intermediate calculations and round your answers to 2 decimal places, e.g., 32.16.)

  

	Discounted payback period
Project A	years
Project B	years

  

b-2	If you apply the discounted payback criterion, which investment will you choose?
	Project A Project B

  

c-1	What is the NPV for each project? (Do not round intermediate calculations and round your answers to 2 decimal places, e.g., 32.16.)

  

	NPV
Project A	$
Project B	$

  

c-2	If you apply the NPV criterion, which investment will you choose?
	Project B Project A

  

d-1	What is the IRR for each project? (Do not round intermediate calculations. Enter your answers as a percent rounded to 2 decimal places, e.g., 32.16.)

  

	IRR
Project A	%
Project B	%

  

d-2	If you apply the IRR criterion, which investment will you choose?
	Project A Project B

  

e-1	What is the profitability index for each project? (Do not round intermediate calculations and round your answers to 3 decimal places, e.g., 32.161.)

  

	Profitability index
Project A
Project B

  

e-2	If you apply the profitability index criterion, which investment will you choose?
	Project A Project B

f.	Based on your answers in (a) through (e), which project will you finally choose?
	(Click to select)Project AProject B

Answer 1

a1

Payback period is the time taken for the cumulative cash flows to become 0

Hence, Project A Payback period = 3.50 years

Project B Payback period = 2.05 years

a2)

If you apply the payback criterion, you would choose Project B

This is because Project B has a lower payback period and hence lesser time required to recover investments.

b1)

Discounted payback period is the time taken for the cumulative discounted cash flows to become 0

Hence, Project A Discounted payback period = 3.98 years

Project B Discounted payback period = 2.69 years

b2)

If you apply the Discounted payback period criterion, you would choose Project B

This is because Project B has a lower Discounted payback period and hence lesser time required to recover investments.

c1)

NPV is calculated using NPV function in excel

Project A NPV = $4740.42

Project B NPV = $11873.52

c2)

If you apply the NPV criterion, you would choose Project B

This is because Project B has a higher and positive NPV and more expected present value cash-flow

d1)

Referring to part c1)

Project A IRR= 14.44%

Project B IRR= 27.54%

d2)

If you apply the IRR criterion, you would choose Project B

This is because Project B has a higher IRR and more expected return.

e1) Profitability Index = PV of future cash flows/ Initial investment

Project A profitability index = 1.01

Project B profitability index = 1.26

e2)

If you apply the profitability index criterion, you would choose Project B

This is because Project B has a higher profitability index and hence more expected profitability

f)

Since all the criterion indicates to take up Project B

Project B should be finally choosen