Question

1. Jameson Manufacturing is considering two alternative investment proposals with the following details:

	Proposal A	Proposal B
Investment, today	$550,000	$275,000
Useful life	5 years	4 years
Estimated annual net cash inflows	$150,000	$90,000
Residual value	$50,000	$0
Depreciation method	Straight-line	Straight-line
Discount rate	10%	9%

1. You have been hired as a capital budgeting expert. You are to recommend to the senior management of Jameson the best investment option. What proposal do you recommend? You must support your answer.
2. Jameson has informed you that they are concerned about the discount rate for both proposals. In fact, Jameson fears that they might be 200 basis points off on the discount rate for both proposals. Does this information have any effect on your decision for part (a.)? You must support your answer.

Answer 1

a)	NPV
			Proposal A	Proposal B
	A	Estimated Annual Cash Flow	$           1,50,000	$              90,000
	B	PV Annuity for $1	3.79079	3.23972
			(10%,5years)	(9%,4 years)
	C	Present Value Of Cash Flow (A*B)	$     5,68,618.02	$     2,91,574.79
	D	Residual Value	$              50,000	$                        -
	E	PV For $ 1	0.6209
	F	PV of Salvage Value (D*E)	$        31,046.07	$                        -
	G	Initial Investment	$           5,50,000	$           2,75,000
	H	Net Present Value (C+F-G))	$        49,664.08	$        16,574.79
	Decision: Proposal A
b)	Revised NPV
	NPV
			Proposal A	Proposal B
	A	Estimated Annual Cash Flow	$           1,50,000	$              90,000
	B	PV Annuity For $1	3.99271	3.38721
			(8%,5years)	(7%,4 years)
	C	Present Value Of Cash Flow (A*B)	$     5,98,906.51	$     3,04,849.01
	D	Residual Value	$              50,000	$                        -
	E	PV For $ 1	0.6806
	F	PV of Salvage Value (D*E)	$        34,029.16	$                        -
	G	Initial Investment	$           5,50,000	$           2,75,000
	H	Net Present Value (C+F-G))	$        82,935.67	$        29,849.01
	A decision would not be changed.