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# Project NPV Evaluation

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1. Compare and contrast, NPV, PI, and EVA. Which evaluation method would you prefer and why?
2. What is the project manager's goal in selecting projects for the firm? How does the capital budgeting process help in accomplishing those goals?

(Net Present value calculation) Big Steve's makers of swizzle stickers, is considering the purchase of a new plastic stamping machine. This investment requires an initial outlay of \$90,000 and will generate net cash inflows of \$16,000 per year for 8 years.

a. What is the project's NPV using the discount rate of 11%? Should the project be accepted? Why or why not?
b. What is the project's NPV using a discount rate of 16%? Should the project be accepted? Why or why not?
c. What is the project's internal rate of return? Should the project be accepted? Why or why not?

a. If the discount rate is 11 percent, then the project's NPV is \$___ (round to the nearest dollar).

The project (should not be or should be) accepted because the NPV is (negative or positive) and therefore (adds or does not add) value to the firm.

#### Solution Preview

1. Compare and contrast, NPV, PI, and EVA. Which evaluation method would you prefer and why?
The Net Present Value of an investment proposal is equal to the present value of its annual free cash flows less the investment's initial outlay. The NPV method recognizes the time value of money and is consistent with the firm's goal of maximizing shareholders' wealth. The NPV method suffers one disadvantage which is that it requires detailed long-term forecasts of a project's cash flows.
The Profitability index is the ratio of the present value of the future free cash flows to the initial outlay. The PI has the same advantages as the NPV in addition to the fact that the PI is a ratio while the NPV is a dollar figure, hence if a firm is interested in a comparative analysis of different investments, the PI would be more beneficial. Finally, the PI again like the NPV suffers one disadvantage which is that it ...

#### Solution Summary

Project NPV evaluation is examined. Project manager's goals in selecting projects for the firm are discussed.

\$2.19

## Golden Gelt Giftware: Project Evaluation, NPV of project

Project Evaluation

The following table presents sales forecasts for Golden Gelt Giftware. The unit price is \$40. The unit cost of the giftware is \$25.

Year 1: Unit of Sales: 22,000
Year 2: 30,000
Year 3: 14,000
Year 4: 5,000

Thereafter: 0

It is expected that net working capital will amount to 20 percent of sales in the following year.

For example, the store will need an initial (Year 0) investment in working capital of .20 à? 22,000 à? \$40 = \$176,000. Plant and equipment necessary to establish the Giftware business will require an additional investment of \$200,000. This investment will be depreciated using MACRS and a 3-year life. After 4 years, the equipment will have an economic and book value of zero. The &#64257;rm's tax rate is 35 percent. What is the net present value of the project? The discount rate is 20 percent.

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