1. What is the payback for a project that has anticipated cash inflows of $10,000 for 5 years and a cost of $22,000?
2. Good old XYZorp (they're back!) is considering two mutually exclusive projects, A & B in order to expand their product line. After letting the cost accountants out of their cages, it was determined that project A's initial investment must be $42,400, while project B will cost $60,000.
- Project A has projected cash inflows of $25,000 per year for three years. Project B's inflows are more variable: $10,000 in year 1; $30,000 in year 2; and $40,000 in its final year.
- You have determined the following: the Prime is 7%, LIBOR is 6%, the firm's cost of capital is 12%.
- Using NPV analysis, if the NPV for project B = + $ 1,320 (yes, I ddi the computation for you!), which project do you prefer?
3. Given the information for project A in problem 2, what is this project's IRR?
Assuming a target capital structure of:
20% preferred stock
40% common equity
What would be the WACC given the following: all debt will be from the sale of bonds with a coupon of 10% (assume no flotation costs), preferred stock's associated cost will be 13%, and common equity will be from retained earnings with an associated cost of 15%. The tax rate for this corporation is 30%.
Solutions depict the methodology to estimate the Payback, NPV, IRR and WACC for the given cases.
Finance Case: Calculate WACC, NPV, PI, IRR and MIRR
See also enclosed Word document of the case study and excel spreadsheet for the financial exibit. Please help answer all questions.
The Investment Detective
The essence of capital budgeting and resource allocation is a search for good investments in which to place the firm's capital. The process can be simple when viewed in purely mechanical terms, but a number of subtle issues can obscure the best investment choices. The capital budgeting analyst is necessarily, therefore, a detective who must winnow good evidence from bad. Much of the challenges is knowing what quantitative analysis to generate in the first place.
Supposed you are a new capital budgeting analyst for a company considering investments in the eight projects listed in Exhibit 1. The chief financial officer of your company has asked you to rank the projects and recommend the "four best" that the company should accept.
For the first part of this assignment only quantitative considerations are relevant. No other project characteristics are deciding factors in the selection, except that management has determined that projects 7 and 8 are mutually exclusive.
All projects require the same initial investment, $2,000,000. Moreover, all are believed to be of the same risk class. The weighted average cost of capital for the first part is 10%. To simulate your analysis, consider the following questions:
1. Can you rank the projects simply by inspecting the cash flows?
2. What criteria might you use to rank the projects? Which quantitative ranking methods are better? Why?
3. What is the ranking you found by using quantitative methods? Does this ranking differ from the ranking obtained by simple inspection of the cash flows?
4. What kinds of real investment projects have cash flows similar to those in the exhibit?
The company has the following capital structure:
Account $ Costs before tax
Long-term Debt 2,000,000 10%
Preferred Stock 500,000 14%
Common Stock 2,500,000 16%
1. Calculate the weighted average cost of capital (tax is 36%)
2. Using the same cash flows in exhibit I, find the NPV, PI, IRR and MIRR. Which project(s) would you recommend and why?