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capital budgeting criteria: You are given the following cash flow of a project with a discount...

capital budgeting criteria:

You are given the following cash flow of a project with a discount rate of 7%. Calculate the Net Present Value, Internal Rate of Return, Profitability Index, and Payback Period.

Year Cash.Flow
0 -17000
1 4500
2 8700
3 11900

Net present value = ??

Internal Rate of Return = ??

Profitability Index = ??

Payback period = ??

Solutions

Expert Solution

1)

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

Net present value = -17000 + 4500/ (1 + 0.07)1 + 8700/ (1 + 0.07)2 + 11900/ (1 + 0.07)3

Net present value = -17000 + 4,205.6075 + 7,598.9169 + 9,713.9447

Net present value = $4,518.47

2)

Internal rate of return is the rate that makes initial investment equal to present value of cash inflows

17000 = 4500/ (1 + R)1 + 8700/ (1 + R)2 + 11900/ (1 + R)3

Using trial and error method, i.e., after trying various values for R, lets try R as 18.96%

17000 = 4500/ (1 + 0.1896)1 + 8700/ (1 + 0.1896)2 + 11900/ (1 + 0.1896)3

17000 = 17000

Therefore, IRR is 18.96%

3)

Profitability index = Present value / initial investment

Present value = 4500/ (1 + 0.07)1 + 8700/ (1 + 0.07)2 + 11900/ (1 + 0.07)3

Present value = 4,205.6075 + 7,598.9169 + 9,713.9447

Present value = 21,518.4692

Profitability index = 21,518.4692 / 17000

Profitability index = 1.27

4)

Cumulative cash flow for year 0 = - 17000

Cumulative cash flow for year 1 = - 17000 + 4500 = -12,500

Cumulative cash flow for year 2 = - 12,500 + 8700 = -3,800

Cumulative cash flow for year 3 = - 3,800 + 11900 = -8,100

3,800 / 11900 = 0.32

Payback period = 2 + 0.32 = 2.32 years

jeff jeffy answered 8 months ago
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