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Exercise 13-14 Comparison of Projects Using Net Present Value [LO13-2] Labeau Products, Ltd., of Perth, Australia,...

Exercise 13-14 Comparison of Projects Using Net Present Value [LO13-2]

Labeau Products, Ltd., of Perth, Australia, has $18,000 to invest. The company is trying to decide between two alternative uses for the funds as follows:

Invest in
Project X
Invest in
Project Y
Investment required $ 18,000 $ 18,000
Annual cash inflows $ 7,000
Single cash inflow at the end of 6 years $ 41,000
Life of the project 6 years 6 years

The company’s discount rate is 17%.

Click here to view Exhibit 13B-1 and Exhibit 13B-2, to determine the appropriate discount factor(s) using tables.

Required:

1. Compute the net present value of Project X.

2. Compute the net present value of Project Y.

3. Which project would you recommend the company accept?

Solutions

Expert Solution

( 1 ) -- Compute the net present value of Project X.

Answer -

Calculation of Net Present Value of Project X

Particulars Formula used Calculation Present Value ($)
Initial investment - Given in question (18000)

Annual cash inflows

(years 1 to 6)

p [1 - (1+r )-n / r]

p = Annual cash inflow = $7000

r = Discount rate = 17%

n = Number of annual cash inflow = 6

$7000[1-(1+0.17)-6/0.17] 25124

Net Present Value

$25124 - $18000 7124

.

( 2 ) -- Compute the net present value of Project Y.

Answer -

Calculation of Net Present Value of Project Y

Particulars Formula used Calculation Present Value ($)
Initial investment - - (18000)

Single cash inflow

at the end of 6th year

C / ( 1 + r )n

C = cash inflow at the end = $41000

r = Discount rate = 17%

n = 6 years

$41000 / (1+0.17)6 15983

Net Present Value

$15983 - $18000 (2017)

.

( 3 ) -- Which project would you recommend the company accept?

Answer -

Project X should be selected, Project Y does not provide the required 17% return, as shown by its negative Net present value.


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