Question

Basic scenario analysis  

 Prime Paints is in the process of evaluating two mutually exclusive additions to its processing capacity. The​ firm's financial analysts have developed​ pessimistic, most​ likely, and optimistic estimates of the annual cash inflows associated with each project. These estimates are shown in the following table.

Project A Project B

Initial investment ​(CF0​)	​ $12,900	​ $12,900
Outcome	Annual cash inflows ​(CF ​)
Pessimistic	​$870	​$1,530
Most likely	1,690	1,690
Optimistic	2,500	1 720

a. Determine the range of annual cash inflows for each of the two projects.

b. Assume that the​ firm's cost of capital is 9.2 % and that both projects have 19​-year lives. Construct a table showing the NPVs for each project for each of the possible outcomes. Include the range of NPVs for each project

. c. Do parts ​(a​) and ​(b​) provide consistent views of the two​ projects? Explain. d. Which project do you​ recommend? Why?

Answer 1

A.The Range of Annual cash flow

For Project A- $ 870- $ 2500
For Project B - $ 1530 - $ 1720

B.

Calculation of discounted cash flows for each possible outcome of the project

	Project A	Project B
Particulars	Amount ( $)	Present value factor of Annuity @ 9.2%	Discounted Cash Flows	Amount ( $)	Present value factor of Annuity @ 9.2%	Discounted Cash Flows
1	2	3	4(2*3)	5	6	7(5*6)
Pesimistic	$870	8.8279	$7,680.27	$1,530	8.8279	$13,506.69
Most likely	$1,690	8.8279	$14,919.15	$1,690	8.8279	$14,919.15
Optimistic	$2,500	8.8279	$22,069.75	$1,720	8.8279	$15,183.99

B.Calculation of Net present value for each possible outcome of the project.

	Project A	Project - B
Particulars	Pesimistic	Most likely	Optimistic	Pesimistic	Most likely	Optimistic
A.Total income genereated from the project ( Step 1)	$7,680.27	$14,919.15	$22,069.75	$13,506.69	$14,919.15	$15,183.99
B.Initial outlay of the Project	$12,900	$12,900	$12,900	$12,900	$12,900	$12,900
C.Net Present Value	($5,219.73)	$2,019.15	$9,169.75	$606.69	$2,019.15	$2,283.99

NPV Range for Project A - ( $ 5219.73) To $ 9169.7
Project B - $ 606.69 To $ 2283.99

C.If the outcome is in the point of view of Pessimistic then the project A is not at all viable,because the project will lead to as end up of Negative NPV of $5219.73.In case of Project B , even in case of pessimestic view also the projects ends up with a positive NPV of $ 606.69. In case the outcome islikely we can accept any project since both are giving an positive outcommf poe of $ 2019.15. In case optimistic outcome project A is more viable since taking up this project involve higher positive NPV than B.

D.I would recommend project B because irrespective of the outcome,the result end up in a positive NPV.

In case of investor is risk averse and highly possessing a optmistic outcome than i would recommend Project A since its NPV is higher by $ 6885 than B ( $ 9169.75-$ 2283.99)