Question

eBook A firm has two mutually exclusive investment projects to evaluate. The projects have the following cash flows: Time Cash Flow X Cash Flow Y 0 -$80,000 -$70,000 1 40,000 30,000 2 55,000 30,000 3 70,000 30,000 4 - 30,000 5 - 5,000 Projects X and Y are equally risky and may be repeated indefinitely. If the firm’s WACC is 9%, what is the EAA of the project that adds the most value to the firm? Do not round intermediate calculations. Round your answer to the nearest dollar. Choose Project -Select-(X, Y), whose EAA = $

Answer 1

Project X
Discount rate	0.09
Year	0	1	2	3
Cash flow stream	-80000	40000	55000	70000
Discounting factor	1	1.09	1.1881	1.295029
Discounted cash flows project	-80000	36697.25	46292.4	54052.84
NPV = Sum of discounted cash flows
NPV Project X =	57042.49
Where
Discounting factor =	(1 + discount rate)^(Corresponding period in years)
Discounted Cashflow=	Cash flow stream/discounting factor
Project Y
Discount rate	0.09
Year	0	1	2	3	4	5
Cash flow stream	-70000	30000	30000	30000	30000	5000
Discounting factor	1	1.09	1.1881	1.295029	1.4115816	1.538624
Discounted cash flows project	-70000	27522.94	25250.4	23165.5	21252.756	3249.657
NPV = Sum of discounted cash flows
NPV Project Y =	30441.25
Where
Discounting factor =	(1 + discount rate)^(Corresponding period in years)
Discounted Cashflow=	Cash flow stream/discounting factor
Project X
Discount rate	0.09
Year	0	1	2	3
Cash flow stream	-80000	40000	55000	70000
Discounting factor	1	1.09	1.1881	1.295029
Discounted cash flows project	-80000	36697.25	46292.4	54052.84
NPV = Sum of discounted cash flows
NPV Project X =	57042.49
Where
Discounting factor =	(1 + discount rate)^(Corresponding period in years)
Discounted Cashflow=	Cash flow stream/discounting factor
Equvalent annuity(EAA)=	22534.90704
Required rate =	0.09
Year	0	1	2	3
Cash flow stream	0	22534.91	22534.91	22534.91
Discounting factor	1	1.09	1.1881	1.295029
Discounted cash flows project	0	20674.23	18967.18	17401.08
Sum of discounted future cashflows =	57042.49
Discounting factor =	(1 + discount rate)^(Corresponding period in years)
Discounted Cashflow=	Cash flow stream/discounting factor
Project Y
Discount rate	0.09
Year	0	1	2	3	4	5
Cash flow stream	-70000	30000	30000	30000	30000	5000
Discounting factor	1	1.09	1.1881	1.295029	1.4115816	1.538624
Discounted cash flows project	-70000	27522.94	25250.4	23165.5	21252.756	3249.657
NPV = Sum of discounted cash flows
NPV Project Y =	30441.25
Where
Discounting factor =	(1 + discount rate)^(Corresponding period in years)
Discounted Cashflow=	Cash flow stream/discounting factor
Equvalent annuity(EAA)=	7826.215755
Required rate =	0.09
Year	0	1	2	3	4	5
Cash flow stream	0	7826.216	7826.216	7826.216	7826.2158	7826.216
Discounting factor	1	1.09	1.1881	1.295029	1.4115816	1.538624
Discounted cash flows project	0	7180.014	6587.169	6043.275	5544.2885	5086.503
Sum of discounted future cashflows =	30441.25
Discounting factor =	(1 + discount rate)^(Corresponding period in years)
Discounted Cashflow=	Cash flow stream/discounting factor

EAC of project x = 22534.91