Submitted by: Submitted by zillagray
Views: 836
Words: 298
Pages: 2
Category: Business and Industry
Date Submitted: 05/15/2011 07:30 PM
Caladonia is considering two additional mutually exclusive projects. The cash flows associated with these projects are as follows:
YEAR PROJECT A PROJECT B
0 –$100,000 –$100,000
1 32,000 0
2 32,000 0
3 32,000 0
4 32,000 0
5 32,000 $200,000
The required rate of return on these projects is 11 percent.
1. What is each project’s payback period?
2. What is each project’s net present value?
3. What is each project’s internal rate of return?
4. What has caused the ranking conflict?
5. Which project should be accepted? Why?
a. What is each project’s payback period?
Project A = 100000/32000 = 3.13 years payback period
Project B = 100,000/200,000 = .5 years + 4 years = 4.5 years payback period
b. What is each project’s net present value?
NPV Project A = -100000 + 32000/(1.11) + 32000/(1.112) + 32000/(1.113) + 32000/(1.114) + 32000/(1.115) = $18,269
NPV Project B = -100,000 + 200,000/ (1.115) = $18,690
c. What is each project’s internal rate of return?
Project A-100,000 = 32,000/ (1+r) + 32,000/ (1+r)2 + 32,000/(1+r)3 + 32,000/(1+r)4+ 32,000/(1+r)5
IRR = 18.03%
Project B -100,000 = 200,000/ (1+r)5
IRR= 14.87%
d. What has caused the ranking conflict?
Ranking conflict is caused because Project A consistently generates the cash flow throughout the life of the project while Project B only generates cash flow at the end of the project.
e. Which project should be accepted? Why?
I believe Project A should be accepted because although it has a slightly lower Net Present Value, the Internal Rate of Return is substantially more.