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The following two projects of equal risk are mutually exclusive alternatives for expanding the firm’s capacity. The...

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Finance

Thefollowing two projects of equal risk are mutually exclusivealternatives for expanding the firm’s capacity. The firm’s cost ofcapital is 15%. The cash flows for each project are given in thefollowing table.

PROJECT A

PROJECT B

Initial investment

210,000

20,000

Year

Net cash inflows

Net cash inflows

1

15,000

12,000

2

30,000

10,500

3

32,000

9,500

4

425,000

8,200

Answer & Explanation Solved by verified expert
4.3 Ratings (849 Votes)

To determine which project should be selected we can compute the NPV.

Year A's cash flow B's cash flow 1+r PVIF = 1/(1+r)^n PV of A = cash flow of A *PVIF PV of B = cash flow of B *PVIF
0 -        210,000.00 -           20,000.00           1.15           1.0000 -        210,000.00 -          20,000.00
                               1             15,000.00             12,000.00           0.8696             13,043.48             10,434.78
                               2             30,000.00             10,500.00           0.7561             22,684.31               7,939.51
                               3             32,000.00                9,500.00           0.6575             21,040.52               6,246.40
                               4           425,000.00                8,200.00           0.5718           242,995.13               4,688.38
NPV             89,763.44               9,309.07

Thus A has a higher NPV and hence A will be selected.
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Transcribed Image Text

Thefollowing two projects of equal risk are mutually exclusivealternatives for expanding the firm’s capacity. The firm’s cost ofcapital is 15%. The cash flows for each project are given in thefollowing table.PROJECT APROJECT BInitial investment210,00020,000YearNet cash inflowsNet cash inflows115,00012,000230,00010,500332,0009,5004425,0008,200

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