Question

The state of Glottamora has $100 million remaining in its budget for the current year. One alternative is to give Glottamorans a one-time tax rebate. Alternatively, two proposals have been made for state expenditures of these funds. The first proposed project is to invest in a new power plant, costing $100 million and having an expected useful life of 20 years. Projected benefits of the new power plant are as follows:

Years 1-5 Benefits per Year 0
Years 6-20 Benefits per Year 20

The second alternative is to undertake a job retraining program, also costing $100 million and generating the following benefits:
Years 1-5 Benefits per Year ($ Millions) 20
Years 6-10 Benefits per Year ($ Millions) 14
Years 11-20 Benefits per Year ($ Millions) 4

The state Power Department argues that a 5 percent discount factor should be used in evaluating the projects because that is the government’s borrowing rate. The Human Resources Department suggests using a 12 percent rate because that more nearly equals society’s true opportunity rate. The present value interest factor at the end of years from 0 - 20 for the two discount rates are given in the following table.

Discount Rates	0	1	2	3	4	5	6	7	8	9	10	11	12	13	14	15	16	17	18	19	20
5%	1	0.952	0.907	0.864	0.823	0.784	0.746	0.711	0.677	0.645	0.614	0.585	0.557	0.53	0.505	0.481	0.458	0.436	0.416	0.396	0.377
12%	1	0.893	0.797	0.712	0.636	0.567	0.507	0.452	0.404	0.361	0.322	0.287	0.257	0.229	0.205	0.183	0.163	0.146	0.13	0.116	0.104

Evaluate the projects using both the 5 % and the 12 percent rates:

Net Benefits at Discount Rate = 5% Net Benefits at Discount Rate = 12%
Project ($ Millions)    Select One    ($ Millions) Select One
Power Plant _____________________ -18.2, 62.7, -22.7, 81.5 ___________________________ -18.2, -22.7, 62.7, 81.5
Job Retraining Program _____________________ 35.0, 53.1, 8.0, -6.2   ___________________________ 53.1, 8.0, -6.2, 35.0

Answer 1

Power Plant
Year	Cash Flow	PVF @ 5%	PV @5%	PVF @ 12%	PV @12%
0	-100.00	1.00	-100.00	1.00	-100.00
1 - 5	-	4.33	-	3.61	-
6 - 20	20.00	8.13	162.66	3.86	77.28
Net Present Value			62.66		-22.72
Job Retraining Program
Year	Cash Flow	PVF @ 5%	PV @5%	PVF @ 12%	PV @12%
0	-100.00	1.00	-100.00	1.00	-100.00
1 - 5	20.00	4.33	86.59	3.61	72.10
6 - 10	14.00	3.39	47.49	2.05	28.64
11 - 20	4.00	4.74	18.96	1.82	7.28
Net Present Value			53.04		8.01

From Above CAlculation, if we use Discount rate of 5%, then Power Plant project is more attractive since it gives greater Net Present Value. But if we use Discount Factor of 12%, then Job Retaining Program is more viable due to Positive NPV.

That means in conclusion, Job Retaining program should be selected since IRR of Job retraining Program is more than that of Power Plant.