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Computing The NPV, IRR And Discounted Payback Period

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? Two projects being considered are mutually exclusive and have the following projected cash flows:

Project A Project B

Year Cash Flow Cash Flow

0 -$50,000 -$50,000
1 15,625 0
2 15,625 0
3 15,625 0
4 15,625 0
5 15,625 99,500
If the required rate of return on these projects is 10 percent, which would be chosen and why?

? Davis Corporation is faced with two independent investment opportunities. The corporation has an investment policy that requires acceptable projects to recover all costs within 3 years. The corporation uses the discounted payback method to assess potential projects and utilizes a discount rate of 10 percent. The cash flows for the two projects are:

Project A Project B

Year Cash Flow Cash Flow

0 -$100,000 -$80,000
1 40,000 50,000
2 40,000 20,000
3 40,000 30,000
4 30,000 0

In which investment project(s) should the company invest?

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Solution Summary

This solution illustrates how to compute the net present value, internal rate of return and discounted payback period of mutually exclusive projects.

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Capital Budgeting-payback period, discounted payback, NPV, IRR

Question 1
Assume you have just been promoted junior financial manager of a company. You are very smart and are planning to be promoted in the next 2-2.5 years. An associate of your company shows you a project with the following cash flows.

End of Year Cash Flows
0 -$100,000
1 $40,000
2 $40,000
3 $40,000
4 $40,000
5 -$20,000
6 $80,000

a) Compute the payback period of this project.

b) Compute the discounted payback period of this project assuming a discount rate of 5%.

c) Would you accept this project? Explain.

d) Compute the NPV of the project. Is this a good project?

e) Would you use the IRR as evaluation technique for this project? Explain.

Quest 2
A project has the following cash flows:

End of Year Cash Flows
0 -150,000
1 60,000
2 60,000
3 60,000
4 60,000
5 60,000
6 -50,000
7 -50,000
8 -50,000
9 -50,000
10 -50,000
A) Compute the NPV of the project assuming a discount rate of 0%
B) Compute the NPV of the project assuming a discount rate of 8.02%
C) Interpret the results in a) and b)
D)If this project's risk adjusted discount rate is 6% should the project be accepted? Explain

Question 3

The "golden rule" in capital budgeting is to select a project if the NPV of the project is positive. Would you accept a project with a negative NPV? Explain

Please see attached for full question.

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