Question

Following is information on two alternative investments being considered by Tiger Co. The company requires a 7% return from its investments. (PV of $1, FV of $1, PVA of $1, and FVA of $1) (Use appropriate factor(s) from the tables provided.)

	Project X1					Project X2
Initial investment		$	(86,000	)			$	(132,000	)
Expected net cash flows in year:
1			28,000					64,500
2			38,500					54,500
3			63,500					44,500

a. Compute each project’s net present value.
b. Compute each project’s profitability index. If the company can choose only one project, which should it choose?

Answer 1

Correct Answer:

requirement 1:

	Net Present Value (NPV)
Project X1	$       25,630
Project X2	$       12,207

Working:

Project X1
Year	Cash Inflows	PV factor at 7%	Present value
1	28000.000	$           0.9346	$     26,168.80
2	38500.000	$           0.8734	$     33,625.90
3	63500.000	$           0.8163	$     51,835.05
Total			$       1,11,630
(-) Initial Cost			$ (86,000.00)
Net Present Value (NPV)			$     25,629.75

Project X2
Year	Cash Inflows	PV factor at 7%	Present value
1	64500	$           0.9346	$     60,281.70
2	54500	$           0.8734	$     47,600.30
3	44500	$           0.8163	$     36,325.35
Total			$       1,44,207
(-) Initial Cost			$     (1,32,000)
Net Present Value (NPV)			$           12,207

Requirement 2:

	PI
Project X1	1.30
Project X2	1.09

Project X1 should be accepted, as it has higher PI

Working:

	A	B	A/B
	Present value of cash flows	Initial investment	PI
Project X	$   1,11,630	$                     86,000	1.30
Project X	$   1,44,207	$                 1,32,000	1.09

End of Answer.

Thanks