Question

Using Excel (if applicable),

A company is considering two mutually exclusive projects. Both require an initial investment of $10,000 at t = 0. Project X has an expected life of 2 years with after-tax cash inflows of $8,000 and $7,000 at the end of Years 1 and 2, respectively. In addition, Project X can be repeated at the end of Year 2 with no changes in its cost or cash flows. Project Y has an expected life of 4 years with after-tax cash inflows of $4,000, $4,250, $4,500, and $4,750 at the end of each of the next 4 years, respectively. Each project has a WACC of 12%. Using the replacement chain approach or equivalent annual annuity, which is the most profitable project and why?

Answer 1

Project X
Year	Cash flows	PVF @ 12%	Discounted cash flows
0	-10000	1	-10000
1	8000	0.8929	7143.2
2	7000	0.7972	5580.4
Net present value	2723.6
PVAF(12%,2)	1.69005
Equivalent Annual Annuity	1611.55	D6/D7
Project y
Year	Cash flows	PVF @ 12%	Discounted cash flows
0	-10000	1	-10000
1	4000	0.8929	3571.6
2	4250	0.7972	3388.1
3	4500	0.7118	3203.1
4	4750	0.6355	3018.625
Net present value	3181.425
PVAF(12%,4)	3.0373
Equivalent Annual Annuity	1047.45
If NPV is positive, that means that the value of the revenues (cash inflows) is greater than the costs (cash outflows). When revenues are greater than costs, the investor makes a profit. ... In theory, an investor should make any investment with a positive NPV, which means the investment is making money.
On the basis of the EAA of both the projects. It is advisable to invest in Project X due to its higher EAA. And project X is high profitable.