Question

ST Inc. is considering two mutually exclusive projects. Both require an initial investment of $9100 at t = 0. Project X has an expected life of 2 years with after-tax cash inflows of $5,500 and $8200 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 cash flows. Project Y has an expected life of 4 years with after-tax cash inflows of $4800 at the end of each of the next 4 years. Each project has a WACC of 11%. What is the equivalent annual annuity of the most profitable project? Do not round intermediate calculations.

a. $1,680.15

b. $2,510.25

c. $1,866.83

d. $1,553.77

e. $1465.82

Answer 1

Both project requires an initial Investment of $9100

- Project X can be repeated at the end of year 2. So cash Flow in Year 2 = Cash Inflow - initial Investment = $8200 - $9100

= -$900

Calculating the Net present Value of Both project :-

Year	Cash Flow of Project X ($)	Cash Flow of Project Y ($)	PV Factor @11%	Present Value of Project X ($)	Present Value of Project Y ($)
0	(9,100.00)	(9,100.00)	1.00000	(9,100.000)	(9,100.00)
1	5,500.00	4,800.00	0.90090	4,954.955	4,324.32
2	(900.00)	4,800.00	0.81162	(730.460)	3,895.79
3	5,500.00	4,800.00	0.73119	4,021.553	3,509.72
4	8,200.00	4,800.00	0.65873	5,401.594	3,161.91
				4,547.64	5,791.74

NPV of the most Profitable Project is $5791.74 of Project Y as it has higher NPV than project X

Calculating the Equivalent Annual Annity(EAC) of Project Y:-

where, NPV = $5791.74

r = WACC = 11%

n = nO of years = 4

EAC = $1866.83

So, Equivalent Annual Annity of most profitable project is $1866.83

Option C

If you need any clarification, you can ask in comments.    

If you like my answer, then please up-vote as it will be motivating