Question

Novell, Inc., has the following mutually exclusive projects.

  

Year		Project A		Project B
0		–$34,000		–$37,000
1		19,000		20,000
2		15,500		14,000
3		4,300		15,500

  

a-1.	Calculate the payback period for each project. (Do not round intermediate calculations and round your answers to 3 decimal places, e.g., 32.161.)

      

a-2.	If the company's payback period is two years, which, if either, of these projects should be chosen?
	Project A Project B Both projects Neither project

  

b-1.	What is the NPV for each project if the appropriate discount rate is 16 percent? (A negative answer should be indicated by a minus sign. Do not round intermediate calculations and round your answers to 2 decimal places, e.g., 32.16.)

      

b-2.	Which, if either, of these projects should be chosen if the appropriate discount rate is 16 percent?
	Project A Project B Both projects Neither project

Answer 1

a-1)

project A:

Cumulative cash flow for year 0 = -34,000

Cumulative cash flow for year 1 = -34,000 + 19,000 = -15,000

Cumulative cash flow for year 2 = -15,000 + 15,500 = 500

15,000 / 15,500 = 0.97

Payback period of project A = 1 + 0.97 = 1.97 years

project B:

Cumulative cash flow for year 0 = -37,000

Cumulative cash flow for year 1 = -37,000 + 20,000 = -17,000

Cumulative cash flow for year 2 = -17,000 + 14,000 = -3,000

Cumulative cash flow for year 3 = -3,000 + 15,500 = 12,500

3,000 / 15,500 = 0.19

Payback period of project B = 2 + 0.19 = 2.19 years

a-2)

Project A should be accepted as it has a payback lower than 2

b-1)

Project A:

NPV = Present value of cash inflows - present value of cash outflows

NPV = -34,000 + 19,000 / (1 + 0.16)¹ + 15,500 / (1 + 0.16)² + 4,300 / (1 + 0.16)³

NPV = -$3,346.84

Project B:

NPV = Present value of cash inflows - present value of cash outflows

NPV = -37,000 + 20,000 / (1 + 0.16)¹ + 14,000 / (1 + 0.16)² + 15,500 / (1 + 0.16)³

NPV = $575.85

b-2)

Project B should be accepted as it has a positive NPV