Question

U3 Company is considering three long-term capital investment proposals. Each investment has a useful life of 5 years. Relevant data on each project are as follows.

		Project Bono		Project Edge		Project Clayton
Capital investment		$171,200		$187,250		$202,000
Annual net income:
Year  1		14,980		19,260		28,890
2		14,980		18,190		24,610
3		14,980		17,120		22,470
4		14,980		12,840		13,910
5		14,980		9,630		12,840
Total		$74,900		$77,040		$102,720

Depreciation is computed by the straight-line method with no salvage value. The company’s cost of capital is 15%. (Assume that cash flows occur evenly throughout the year.)

Click here to view PV table.

Compute the cash payback period for each project. (Round answers to 2 decimal places, e.g. 10.50.)

Project Bono		enter the cash payback period in years for the project rounded to 2 decimal places	years
Project Edge		enter the cash payback period in years for the project rounded to 2 decimal places	years
Project Clayton		enter the cash payback period in years for the project rounded to 2 decimal places	years

eTextbook and Media

Compute the net present value for each project. (Round answers to 0 decimal places, e.g. 125. If the net present value is negative, use either a negative sign preceding the number eg -45 or parentheses eg (45). For calculation purposes, use 5 decimal places as displayed in the factor table provided.)

		Project Bono		Project Edge		Project Clayton
Net present value		$enter a dollar amount rounded to 0 decimal places		$enter a dollar amount rounded to 0 decimal places		$enter a dollar amount rounded to 0 decimal places

eTextbook and Media

Compute the annual rate of return for each project. (Hint: Use average annual net income in your computation.) (Round answers to 2 decimal places, e.g. 10.50.)

		Project Bono		Project Edge		Project Clayton
Annual rate of return		enter a percentage number rounded to 2 decimal places %		enter a percentage number rounded to 2 decimal places %		enter a percentage number rounded to 2 decimal places %

Answer 1

Calculation of payback period
depreciation = 171200/5 = 34240
project bono
payback period = capital investment/cash inflow
payback period = 171200/(14980+34240) = 3.48 years
Project Edge
depreciation = 187250/5 = 37450
Years	annual net income (a)	depreciation(b)	cash flow(a)+(b)	cumulative cash flow
1	19260	37450	56710	56710
2	18190	37450	55640	112350
3	17120	37450	54570	166920
4	12840	37450	50290	217210
5	9630	37450	47080	264290
payback period = (187250-166920)/(217210-166920) = 0.40
payback period = 3+0.40 = 3.40years
project Clayton
depreciation = 202000/5 = 40400
Years	annual net income (a)	depreciation(b)	cash flow(a)+(b)	cumulative cash flow
1	28890	40400	69290	69290
2	24610	40400	65010	134300
3	22470	40400	62870	197170
4	13910	40400	54310	251480
5	12840	40400	53240	304720
payback period = (202000-197170)/(251480-197170) = 0.08
payback period = 3years+0.08 = 3.08years
Net present value
project bono
year	cash inflow	pvf@15%	present value
1	49220	0.86957	42800
2	49220	0.75614	37217.2108
3	49220	0.65752	32363.1344
4	49220	0.57175	28141.535
5	49220	0.49718	24471.1996
	total		164993.0798
	investment		-171200
	net present value		-6206.9202
Project Edge
year	cash inflow	pvf@15%	present value
1	56710	0.86957	49313.04
2	55640	0.75614	42071.63
3	54570	0.65752	35880.87
4	50290	0.57175	28753.31
5	47080	0.49718	23407.23
	total		179426.08
	investment		-187250
	net present value		-7823.92
project Clayton
year	cash inflow	pvf@15%	present value
1	69290	0.86957	60252.17
2	65010	0.75614	49156.66
3	62870	0.65752	41338.28
4	54310	0.57175	31051.74
5	53240	0.49718	26469.86
	total		208268.72
	investment		-202000
	net present value		6268.72
Annual rate of return = average net profit/average investment
project bono = 14980/(171200/2) = 17.5%
project edge = (77040/5)/(187250/2) = 16.46%
project clayton = (102720/5)/(202000/2) = 20.34%
Rank
project	cash payback	net present value	annual rate of return
Bono	3	2	2
Edge	2	3	3
Clayton	1	1	1
the best project is Clayton