Question

Sheridan Company is considering two different, mutually exclusive capital expenditure proposals. Project A will cost $496,000, has an expected useful life of 12 years, a salvage value of zero, and is expected to increase net annual cash flows by $72,400. Project B will cost $335,000, has an expected useful life of 12 years, a salvage value of zero, and is expected to increase net annual cash flows by $50,000. A discount rate of 8% is appropriate for both projects. Click here to view PV table.

Compute the net present value and profitability index of each project. (If the net present value is negative, use either a negative sign preceding the number eg -45 or parentheses eg (45). Round present value answers to 0 decimal places, e.g. 125 and profitability index answers to 2 decimal places, e.g. 15.25. For calculation purposes, use 5 decimal places as displayed in the factor table provided.)

Net present value - Project A		$
Profitability index - Project A
Net present value - Project B		$
Profitability index - Project B		enter your answer rounded to 2 decimal places

Which project should be accepted based on Net Present Value?

(Project A/ Project B) Should be accepted

Which project should be accepted based on profitability index?

(ProjectA/ Project B) should be accepted

Answer 1

Net present value - Project A	49612
Profitability index - Project A	1.10
Net present value - Project B	41804
Profitability index - Project B	1.12
Based on Net Present Value,Project A Should be accepted
Based on profitability index, Project B should be accepted
Workings:
Project A:
Net annual cash flows	72400
X PV factor	7.53608	=(1-(1.08)^-12)/0.08
Present value of Net annual cash flows	545612
Less: Investment cost	496000
Net Present value	49612
Present value of Net annual cash flows	545612
Divided by Investment cost	496000
Profitability index	1.10
Project B:
Net annual cash flows	50000
X PV factor	7.53608
Present value of Net annual cash flows	376804
Less: Investment cost	335000
Net Present value	41804
Present value of Net annual cash flows	376804
Divided by Investment cost	335000
Profitability index	1.12