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Calculating the desired Capital Budgeting Parameters

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1) Great Lakes Clinic has been asked to provide exclusive healthcare services for next year's World Exposition. Although flattered by the request, the clinic's managers want to conduct a financial analysis of the project. There will be an up-front cost of $160,000 to get the clinic in operation. Then, a net cash inflow of $1million is expected from operations in each of the two years of the exposition. However, the clinic has to pay the organizers of the exposition a fee for the marketing value of the opportunity. This fee, which must be paid at the end of the second year, is $2million.

a)What are the cash flows associated with the project?
b)What is the project's Internal Rate of Return?
c)Assuming a project cost of capital of 10%, what is the project's Net Present Value?
d)What is the project's Modified Internal Rate of Return?

2) Assume that you are the chief financial officer at Porter Memorial Hospital. The CEO has asked you to analyze two proposed capital investments-Project X and Project Y. Each project requires a net investment outlay of $10,000 and the cost of capital for each project is 12%. The projects' expected net cash flows are as follows:

Year Project X Project Y
0 ($10,000) ($10,000)
1 6,500 3,000
2 3,000 3,000
3 3,000 3,000
4 1,000 3,000

a)Calculate each projects payback period, net present value (NPV) and internal rate of return (IRR)
b)Which project is financially acceptable. Explain your answer.

The director of capital budgeting for Big Sky Health Systems, Inc., has estimated the following cash flows in thousands of dollars for a proposed new service:

Year Expected Net Cash Flow
0 ($100)
1 70
2 50
3 20
The projects cost of capital is 10%.

a) What is the project's payback period?
b) What is the projects NPV?
c) What is the projects IRR? Its MIRR?

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Solution Summary

There are 3 problems. Solutions to these problems depict the methodology to calculate NPV, IRR, Payback Period and MIRR.

Solution provided by:
Lokesh Jain, MSc
Education
  • BEng (Hons) , Birla Institute of Technology and Science, India
  • MSc (Hons) , Birla Institute of Technology and Science, India
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