Question

Keller Construction is considering two new investments. Project E calls for the purchase of earth-moving equipment. Project H represents the investment in a hydraulic lift. Keller wishes to use a NPV profile in comparing the projects. The investment and cash flow patterns are as follows: Use Appendix B.

Project E ($20,000 investment) Project H ($20,000 investment)

Year Cash Flow Year Cash Flow

1 $5,000 1 $16,000

2 6,000 2 5,000

3 7,000 3 4,000

4 10,000

a. Determine the NPV of the projects based on a zero discount rate.

NPV Project E $ ?

Project H $ ?

b. Determine the NPV of the projects based on a 9 percent discount rate. (Round "PV Factors" to 3 decimal places. Round the final answers to the nearest whole dollar.)

NPV Project E $ ?

Project H $ ?

d. If the two projects are not mutually exclusive, what would your acceptance or rejection decision be if the cost of capital (discount rate) is 10 percent? (Use the NPV profile for your decision; no actual numbers are necessary.)

Project E

Project H

Both H and E

e. If the two projects are mutually exclusive (the selection of one precludes the selection of the other), what would be your decision if the cost of capital is (1) 6 percent, (2) 13 percent, (3) 18 percent? Use the NPV profile for your answer.

6% cost of capital ( select E project, H project or do not select either project)

13% cost of capital ( select E project, H project or do not select either project)

18% cost of capital ( select E project, H project or do not select either project)

Answer 1

NPV formula = present value of cash inflows - present value of cash outflows

a) At zero percent discount rate , NPV is simply cash inflows minus cash outflows

NPV of E = 28,000 - 20,000 = $ 8,000

NPV of H = 25,000 - 20,000 = $ 5,000

b) calculation of NPV @9%

Present value of cash inflows table @9%

Years	cash flows of E	cash flows of H	PV F @9%	PV of E	PV of H
1	5,000	16,000	0.917	4,585	14,672
2	6,000	5,000	0.841	5,046	4,205
3	7,000	4,000	0.772	5,404	3088
4	10,000	0	0.708	7,080
Total	22,115	21,965

NPV of E = 22,115 - 20,000 =$ 2,115

NPV of H = 21,965 - 20,000 = $ 1,965

d) Calculation of NPV @10%

Present value of cash inflows table @10%

Years	cash flows of E	cash flows of H	PV F @10%	PV of E	PV of H
1	5,000	16,000	0.909	4,545	14,544
2	6,000	5,000	0.826	4,956	4,130
3	7,000	4,000	0.751	5,257	3004
4	10,000	0	0.683	6,830
Total	21,588	21,678

NPV of E = 21,588 - 20,000 =$ 1,588

NPV of H = 21,965 - 20,000 = $ 1,965

Both H & E are accepted

e) Calculation of NPV @ 6%, 13%, & 18%

At 6%-

Present value of cash inflows table @6%

Years	cash flows of E	cash flows of H	PV F @6%	PV of E	PV of H
1	5,000	16,000	0.943	4,715	15,088
2	6,000	5,000	0.890	5,340	4,450
3	7,000	4,000	0.840	5,880	3,360
4	10,000	0	0.792	7,920
Total	23,855	22,898

NPV of E = 23,855 - 20,000 =$ 3,855

NPV of H = 22,898 - 20,000 = $ 2,898

Discount rate@6% , project E is selected.

At- 13%

Present value of cash inflows table @13%

Years	cash flows of E	cash flows of H	PV F @13%	PV of E	PV of H
1	5,000	16,000	0.885	4,425	14,160
2	6,000	5,000	0.783	4,698	3,195
3	7,000	4,000	0.693	4,851	2,772
4	10,000	0	0.613	6130
Total	20,104	20,127

NPV of E = 20,104 - 20,000 =$ 104

NPV of H = 20,127 - 20,000 = $ 127

Discounting rate @13%, Project H is selected.

At 18%:-

Present value of cash inflows table @18%

Years	cash flows of E	cash flows of H	PV F @18%	PV of E	PV of H
1	5,000	16,000	0.848	4,240	13,568
2	6,000	5,000	0.718	4,308	3,590
3	7,000	4,000	0.609	4,263	2,436
4	10,000	0	0.516	5,160
Total	17,971	19,594

NPV of E = 17,971 - 20,000 =( $ 2,029)

NPV of H = 19,594- 20,000 =( $406)

Discounting rate @18% , do not select either project