Question

Brazen, Ltd. has $75,000 to invest. The company is trying to decide between two different projects.  The alternatives are:

Project A Project B

Cost of equipment required	$ 75,000	$ -
Working capital investment required	$ -	$ 75,000
Annual cash inflows	$ 18,000	$ 11,000
Salvage value of equipment in six years	$ 22,000	$ -
Life of the project	6 years	6 years

The working capital needed for project B will be released at the end of six years for investment elsewhere. Brazen’s discount rate is 12%.

Required:

Which project (if either) would you recommend that the company pursue? Show all calculations in excel using the net present value format. Must show a schedule that reflects each of the six years (as modeled in class and outlined in the PowerPoint presentation). Prepare separate calculations for each project.

Answer 1

ANSWER :

Project A :

Computation of net operating cash flow :

			Year-0	Year-1	Year-2	Year-3	Year-4	Year-5	Year-6
A	Initial cash outflow		-75,000			18,000	18,000	18,000	18,000
B	Operating cash flow			18,000	18,000
C	salvage value								22000
D	Net cash flow (A+B+C)		(75,000)	18,000	18,000	18,000	18,000	18,000	40,000
E	PVIF 12%		1	0.8929	0.7972	0.7118	0.6355	0.5674	0.5066
F	Present value (E*D)		-75,000	16,071	14,349	12,812	11,439	10,214	20,265	10,151
	NPV =	$10,151.22

Project B :

Computation of net operating cash flow

			Year-0	Year-1	Year-2	Year-3	Year-4	Year-5	Year-6
A	Working capital		-75,000
B	Operating cash flow			11,000	11,000	11,000	11,000	11,000	11,000
C	working capital release								75000
D	Net cash flow (A+B+C		(75,000)	11,000	11,000	11,000	11,000	11,000	86,000
E	PVIF @ 12%		1	0.8929	0.7972	0.7118	0.6355	0.5674	0.5066
F	Present value (E*D)		-75,000	9,821	8,769	7,830	6,991	6,242	43,570	8,223
	NPV =	$8,222.81

Since NPV of B is lower compared to NPV of A . Therefore A should be selected.