Question

Net Present Value Method, Internal Rate of Return Method, and Analysis

The management of Quest Media Inc. is considering two capital investment projects. The estimated net cash flows from each project are as follows:

Year	Radio Station		TV Station
1	$270,000		$490,000
2	270,000		490,000
3	270,000		490,000
4	270,000		490,000

Present Value of an Annuity of $1 at Compound Interest
Year	6%	10%	12%	15%	20%
1	0.943	0.909	0.893	0.870	0.833
2	1.833	1.736	1.690	1.626	1.528
3	2.673	2.487	2.402	2.283	2.106
4	3.465	3.170	3.037	2.855	2.589
5	4.212	3.791	3.605	3.352	2.991
6	4.917	4.355	4.111	3.784	3.326
7	5.582	4.868	4.564	4.160	3.605
8	6.210	5.335	4.968	4.487	3.837
9	6.802	5.759	5.328	4.772	4.031
10	7.360	6.145	5.650	5.019	4.192

The radio station requires an investment of $770,850, while the TV station requires an investment of $1,488,130. No residual value is expected from either project.

Required:

1a. Compute the net present value for each project. Use a rate of 10% and the present value of an annuity of $1 in the table above. If required, use the minus sign to indicate a negative net present value. If required, round to the nearest whole dollar.

	Radio Station	TV Station
Present value of annual net cash flows	$	$
Less amount to be invested	$	$
Net present value	$	$

1b. Compute a present value index for each project. If required, round your answers to two decimal places.

	Present Value Index
Radio Station
TV Station

2. Determine the internal rate of return for each project by (a) computing a present value factor for an annuity of $1 and (b) using the present value of an annuity of $1 in the table above. If required, round your present value factor answers to three decimal places and internal rate of return to the nearest whole percent.

	Radio Station		TV Station
Present value factor for an annuity of $1
Internal rate of return		%		%

3. The net present value, present value index, and internal rate of return all indicate that the is a better financial opportunity compared to the , although both investments meet the minimum return criterion of 10%.

Answer 1

Answer 1a.

Radio Station:

Present Value of Annual Net Cash Flows = $270,000 * PVA of $1 (10% , 4)
Present Value of Annual Net Cash Flows = $270,000 * 3.170
Present Value of Annual Net Cash Flows = $855,900

Net Present Value = Present Value of Annual Net Cash Flows - Amount to be invested
Net Present Value = $855,900 - $770,850
Net Present Value = $85,050

TV Station:

Present Value of Annual Net Cash Flows = $490,000 * PVA of $1 (10% , 4)
Present Value of Annual Net Cash Flows = $490,000 * 3.170
Present Value of Annual Net Cash Flows = $1,553,300

Net Present Value = Present Value of Annual Net Cash Flows - Amount to be invested
Net Present Value = $1,553,300 - $1,488,130
Net Present Value = $65,170

Answer 1b.

Radio Station:

Present Value Index = Net Present Value / Amount to be invested
Present Value Index = $85,050 / $770,850
Present Value Index = 0.11

TV Station:

Present Value Index = Net Present Value / Amount to be invested
Present Value Index = $65,170 / $1,488,130
Present Value Index = 0.04

Answer 2.

Radio Station:

PV Factor of an Annuity of $1 = Amount to be invested / Annual Net Cash Flows
PV Factor of an Annuity of $1 = $770,850 / $270,000
PV Factor of an Annuity of $1 = 2.855

Internal Rate of Return = 15%

TV Station:

PV Factor of an Annuity of $1 = Amount to be invested / Annual Net Cash Flows
PV Factor of an Annuity of $1 = $1,488,130 / $490,000
PV Factor of an Annuity of $1 = 3.037

Internal Rate of Return = 12%

Answer 3.

The net present value, present value index, and internal rate of return all indicate that the Radio Station is a better financial opportunity compared to the TV Station, although both investments meet the minimum return criterion of 10%.