Question

In: Finance

NPV​, with rankings Botany​ Bay, Inc., a maker of casual​ clothing, is considering four projects shown...

NPV​, with rankings Botany​ Bay, Inc., a maker of casual​ clothing, is considering four projects shown in the following​ table,

Initial investment   $50,100   $100,000   $80,100   $180,200
Year   Cash inflows          
1   $20,600   $35,400   $20,800   $100,400
2   $20,600   $51,500   $39,800   $79,300
3   $20,600   $51,100   $60,700   $60,400

Because of past financial​ difficulties, the company has a high cost of capital at 14.7 %.

a. Calculate the NPV of each​ project, using a cost of capital of 14.7 %.

b. Rank acceptable projects by NPV.

c. Calculate the IRR of each project and use it to determine the highest cost of capital at which all of the projects would be acceptable.

Solutions

Expert Solution

Present Value = Future value/ ((1+r)^t)
where r is the interest rate that is 14.7% and t is the time period in years.
Net present value (NPV) = initial investment + sum of present values of future cash flows.
The internal rate of return is the rate of return for which the NPV is zero.
Use the financial formulas function in excel to calculate the IRR of each project.
PROJECT 1
Year 0 1 2 3
cash flow -50100 20600 20600 20600
present value 17959.9 15658.15 13651.39
NPV -2830.564
IRR 11.28%
PROJECT 2
Year 0 1 2 3
cash flow -100000 35400 51500 51100
present value 30863.12 39145.37 33863.41
NPV 3871.89706
IRR 16.87%
PROJECT 3
Year 0 1 2 3
cash flow -80100 20800 39800 60700
present value 18134.26 30252.15 40225.22
NPV 8511.63355
IRR 20.00%
PROJECT 4
Year 0 1 2 3
cash flow -180200 100400 79300 60400
present value 87532.69 60276.27 40026.41
NPV 7635.37565
IRR 17.47%
a) Using a cost of capital of 14.7% the following are the NPV's
PROJECT 1 -2830.56
PROJECT 2 3871.90
PROJECT 3 8511.63
PROJECT 4 7635.38
b) Acceptable projects by NPV
RANK PROJECT
1 PROJECT 3.
2 PROJECT 4.
3 PROJECT 2.
4 PROJECT 1.
c) The following are the IRR's
PROJECT 1 11.28%
PROJECT 2 16.87%
PROJECT 3 20.00%
PROJECT 4 17.47%
The highest cost of capital for which all projects would be acceptable
is 11.28%.
If the cost of capital is more than 11.28% then project 1 will not be acceptable.

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