1. A company has three new project ideas that are all expected to last 4 years....

1. A company has three new project ideas that are all expected to last 4 years. Unfortunately due to a resource constraint they can only pursue 2 of these projects. Assume the development costs for all projects are paid up front (i.e. prior to the start of the project). The specific financial projections for the three projects are:
· Project 1 – Development cost would be $50,000. Projected revenues from the project are $50,000 in the first year with an expected annual growth of 10% each of the next 3 years.
· Project 2 - Development cost would be $100,000. Projected revenues from the project are expected to be a constant $72,000 for all 4 years.
· Product 3 - Development cost would be $150,000. Projected revenues are $100,000 in the first year with an expected decline of 10% each of the next 3 years.
If the company uses a 7.5% hurdle rate and estimates inflation at 1% annually what is each project’ s NPV? (In addition to the total NPV for each project *You MUST show your calculations & annual NPV values for each project)*

*Project 1*
YEAR	NetFlow
c0	-$50,000.00
c1	$50,000.00
c2	$55,000.00
c3	$60,500.00
c4	$66,550.00

*Project 2*
YEAR	NetFlow
year 0	-$100,000.00
year 1	$72,000.00
year 2	$72,000.00
Year 3	$72,000.00
Year 4	$72,000.00

*Project 3*
YEAR	NetFlow
year 0	-150,000.00
year 1	100,000.00
year 2	90,000.00
Year 3	81,000.00
Year 4	72,900.00

Solutions

Expert Solution

PROJECT 1 AND 2 SHOULD BE ACCEPTED SINCE THEY HAVE INCREASING AND CONSTANT CASH FLOWS RESPECTIVELY ALSO HAVE NOV GREATER THAN PROJECT C

CALCULATION OF DISCOUNT RATE

=(1+0.75) x (1+0.01)

=(1.075) x (1.01)

=1.08575

DISCOUNT RATE = 8.575%

		PROJECT 1
CASH FLOWS		PV FACTOR @8.575%	PV OF CASH FLOWS
YEAR 0	-50000		-50000
YEAR 1	50000	0.921	46051.12
YEAR 2	55000	0.848	46655.52
YEAR 3	60500	0.781	47267.85
YEAR 4	66550	0.720	47888.22
ROR	8.58%	NPV =	126974.63

		PROJECT 2
CASH FLOWS		PV FACTOR @8.575%	PV OF CASH FLOWS
YEAR 0	-100000		-100000
YEAR 1	72000	0.921	66313.61
YEAR 2	72000	0.848	61076.31
YEAR 3	72000	0.781	56252.65
YEAR 4	72000	0.720	51809.95
ROR	8.58%	NPV =	124754.79

		PROJECT 3
CASH FLOWS		PV FACTOR @8.575%	PV OF CASH FLOWS
YEAR 0	-150000		-150000
YEAR 1	100000	0.921	92102.23
YEAR 2	90000	0.848	76345.39
YEAR 3	81000	0.781	63284.23
YEAR 4	72900	0.720	52457.57
ROR	8.58%	NPV =	123591.46

jeff jeffy answered 1 year ago

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