Question

Your division is considering two projects. Your division’s WACC is 10%, and the projects’ after-tax cash flows (in millions of dollars) would be as follows: (Time Period is in terms of years.) Please keep two decimals for your results, i.e., 4.55 years, 3.09%, $98.98, etc.

Time 0. 1. 2. 3 . 4

Project A. -1,000. 100. 300. 500. 600

Project B. -1,000. 600. 600. 200. 100

Calculate the Discounted Payback Period of Project A: (14’)

Project A
Time Period:	0	1	2	3	4
Cash Flow:	(1,000) or -1,000	100	300	500	600
Discounted Cash Flow:
Cumulative Discounted Cash Flow:

NPV: (8’)

Using your financial calculator, calculate the NPV of each project:

NPV_A =

NPV_B =

According to NPV, if they are independent projects, which project (or projects) should your division accept? If they are mutually exclusive projects, which project (or projects) should your division accept?

If they are independent projects:

If they are mutually exclusive projects:

IRR (8’):

Using your financial calculator, calculate the IRR of each project:

IRR_A =

IRR_B =

According to IRR, if they are independent projects, which project (or projects) should your division accept? If they are mutually exclusive projects, which project (or projects) should your division accept?

If they are independent projects:

If they are mutually exclusive projects:

Answer 1

Project A

Payback period= full years until recovery + unrecovered cost at the start of the year/ discounted cash flow during the year

Cumulative cash flow in year 1= $90.91

   Cumulative cash flow in year 2= $247.93

Cumulative cash flow in year 3= $375.66

Cumulative cash flow in year 4= $409.81

= 3 years + ($1,000 - $714.50)/ $409.81

= 3 years + $285.50/ $409.81

   = 3 years + 0.70

= 3.70 years.

Project B

Payback period= full years until recovery + unrecovered cost at the start of the year/ discounted cash flow during the year

Cumulative cash flow in year 1= $545.45

   Cumulative cash flow in year 2= $495.87

Cumulative cash flow in year 3= $130.26

Cumulative cash flow in year 4= $68.30

= 1 year + ($1,000 - $545.45)/ $495.87

= 1 year + $454.55/ $495.87

   = 1 year + 0.9167

= 1.92 years.

Project A

Net present value can be solved using a financial calculator. The steps to solve on the financial calculator:

• Press the CF button.
• CF0= -$1,000. Indicate the initial cash flow by a negative sign since it is a cash outflow.  
• Cash flow for each year should be entered.
• Press Enter and down arrow after inputting each cash flow.
• After entering the last cash flow cash flow, press the NPV button and enter the weighted average cost of capital of 10%.
• Press enter after that. Press the down arrow and CPT buttons to get the net present value.  

Net present value at 10% weighted average cost of capital is $124.31.

Project B

Net present value can be solved using a financial calculator. The steps to solve on the financial calculator:

• Press the CF button.
• CF0= -$1,000. Indicate the initial cash flow by a negative sign since it is a cash outflow.  
• Cash flow for each year should be entered.
• Press Enter and down arrow after inputting each cash flow.
• After entering the last cash flow cash flow, press the NPV button and enter the weighted average cost of capital of 10%.
• Press enter after that. Press the down arrow and CPT buttons to get the net present value.  

Net present value at 10% weighted average cost of capital is $259.89.

If the projects are independent, I would accept both the projects since they generate a positive net present value.

If the projects are mutually exclusive, I would accept project B since it generates the highest net present value.

Project A

Internal rate of return can be calculated using a financial calculator by inputting the below:

• Press the CF button.
• CF0= -$1,000. The initial cash flow is indicated by a negative sign since it is a cash outflow.  
• Cash flow for each of the fifteen years should be entered.
• Press Enter and down arrow after inputting each cash flow.
• After entering the last cash flow cash flow, press the IRR and CPT button to get the IRR of the project.

The IRR of the project is 14.44%.

Project B

Internal rate of return can be calculated using a financial calculator by inputting the below:

• Press the CF button.
• CF0= -$1,000. The initial cash flow is indicated by a negative sign since it is a cash outflow.  
• Cash flow for each of the fifteen years should be entered.
• Press Enter and down arrow after inputting each cash flow.
• After entering the last cash flow cash flow, press the IRR and CPT button to get the IRR of the project.

The IRR of the project is 25.54%.