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In: Finance
Question Three The following table describes the cash flow income from each of the four projects....
Question Three
| The following table describes the cash flow income from each of the four projects. | ||||||
| Each project has an initial cost of $100,000. | ||||||
| CFs at Year End | Project A | Project B | Project C | Project D | ||
| 1 | 8,021 | 4,011 | 33,021 | 66,042 | ||
| 2 | 8,021 | 4,011 | 33,021 | 33,021 | ||
| 3 | 8,021 | 4,011 | 33,021 | 33,021 | ||
| 4 | 108,021 | 120,053 | 33,021 | |||
| Use a spread sheet to calculate the net present value of the projects under the assumption of | ||||||
| each of the following 4 effective annual interest rates: | ||||||
| Hint: do the calculations for Project A. Then copy/paste across for the other projects. | ||||||
| 2% | 5% | 8% | 11% | |||
| Which project's NPV changes most when interest rate changes? | ||||||
| Which project's NPV changes least when interest rate changes? | ||||||
|
Explain why you would expect those changes in NPV in each case. PLEASE ATTACH ANSWER IN EXCEL FORMAT |
|
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Solutions
Expert Solution
| Calculation of project's NPVs | Project A | Project B | |||||||||||||||||
| Year | Discount factor @ 2% | Discount factor @ 5% | Discount factor @ 8% | Discount factor @ 11% | Year | Cash flows | Present values | Present values | Present values | Present values | Year | Cash flows | Present values | Present values | Present values | Present values | |||
| 2% | 5% | 8% | 11% | 2% | 5% | 8% | 11% | ||||||||||||
| 0 | 1 | 1 | 1 | 1 | 0 | -$100,000.00 | -$100,000.00 | -$100,000.00 | -$100,000.00 | -$100,000.00 | 0 | -$100,000.00 | -$100,000.00 | -$100,000.00 | -$100,000.00 | -$100,000.00 | |||
| 1 | 0.980392 | 0.952381 | 0.925926 | 0.900901 | 1 | $8,021.00 | $7,863.73 | $7,639.05 | $7,426.85 | $7,226.13 | 1 | $4,011.00 | $3,932.35 | $3,820.00 | $3,713.89 | $3,613.51 | |||
| 2 | 0.961169 | 0.907029 | 0.857339 | 0.811622 | 2 | $8,021.00 | $7,709.53 | $7,275.28 | $6,876.71 | $6,510.02 | 2 | $4,011.00 | $3,855.25 | $3,638.10 | $3,438.79 | $3,255.42 | |||
| 3 | 0.942322 | 0.863838 | 0.793832 | 0.731191 | 3 | $8,021.00 | $7,558.37 | $6,928.84 | $6,367.33 | $5,864.89 | 3 | $4,011.00 | $3,779.65 | $3,464.85 | $3,184.06 | $2,932.81 | |||
| 4 | 0.923845 | 0.822702 | 0.73503 | 0.658731 | 4 | $108,021.00 | $99,794.71 | $88,869.14 | $79,398.66 | $71,156.78 | 4 | $120,053.00 | $110,910.41 | $98,767.90 | $88,242.54 | $79,082.63 | |||
| NPV | $22,926.33 | $10,712.32 | $69.55 | -$9,242.19 | NPV | $22,477.67 | $9,690.85 | -$1,420.73 | -$11,115.63 | ||||||||||
| Changes in NPV | $12,214.02 | $10,642.76 | $9,311.74 | Changes in NPV | $12,786.82 | $11,111.57 | $9,694.91 | ||||||||||||
| Project C | Project D | ||||||||||||||||||
| Year | Cash flows | Present values | Present values | Present values | Present values | Year | Cash flows | Present values | Present values | Present values | Present values | ||||||||
| 2% | 5% | 8% | 11% | 2% | 5% | 8% | 11% | ||||||||||||
| 0 | -$100,000.00 | -$100,000.00 | -$100,000.00 | -$100,000.00 | -$100,000.00 | 0 | -$100,000.00 | -$100,000.00 | -$100,000.00 | -$100,000.00 | -$100,000.00 | ||||||||
| 1 | $33,021.00 | $32,373.53 | $31,448.57 | $30,575.00 | $29,748.65 | 1 | $66,042.00 | $64,747.06 | $62,897.14 | $61,150.00 | $59,497.30 | ||||||||
| 2 | $33,021.00 | $31,738.75 | $29,951.02 | $28,310.19 | $26,800.58 | 2 | $33,021.00 | $31,738.75 | $29,951.02 | $28,310.19 | $26,800.58 | ||||||||
| 3 | $33,021.00 | $31,116.43 | $28,524.78 | $26,213.13 | $24,144.67 | 3 | $33,021.00 | $31,116.43 | $28,524.78 | $26,213.13 | $24,144.67 | ||||||||
| 4 | $33,021.00 | $30,506.30 | $27,166.46 | $24,271.42 | $21,751.96 | 4 | |||||||||||||
| NPV | $25,735.01 | $17,090.83 | $9,369.74 | $2,445.86 | NPV | $27,602.24 | $21,372.94 | $15,673.32 | $10,442.55 | ||||||||||
| Changes in NPV | $8,644.18 | $7,721.09 | $6,923.88 | Changes in NPV | $6,229.29 | $5,699.62 | $5,230.77 | ||||||||||||
| Project B's NPV changes most when interest rate changes. | |||||||||||||||||||
| Project D's NPV changes least when interest rate changes. | |||||||||||||||||||
| Changes in NPV occurs due to uneven cash inflows occur at different time span and also the discount factors changes with change in interest rate | |||||||||||||||||||
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