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Calculate Payback, IRR, NPV for 4 projects

1. Growth Enterprise , Inc. (GEI) has $40 million that it can invest in any or all of the four capital investment projects (A, B, C, D), which have cash flows as shown in the following table.

Table 1. Comparison of Project Cash Flows ($ thousand dollars)

Project Type of cash flow Year 0 Year 1 Year 2 Year 3
A. Investment -$10,000 0 0 0
Revenue 0 $21,000 0 0
Operating expense 0 $11,000 0 0

B. Investment -$10,000 0 0 0
Revenue 0 $15,000 $17,000 0
Operating expense 0 $5,833 $7,833 0

C. Investment -$10,000 0 0 0
Revenue 0 $10,000 $11,000 $30,000
Operating expense 0 $5,555 $4,889 $15,555

D. Investment -$10,000 0 0 0
Revenue 0 $30,000 $10,000 $5,000
Operating expense 0 $15,555 $5,555 $2,222

All revenues and operating expenses can be considered cash items.

Each of these projects is considered to be of equivalent risk. The investment will be depreciated to zero on a straight-line basis for tax purpose. For simplicity, the depreciation per year for a project is equal to the project investment value divided by the life of the project. Project A has 1-year life, Project B has two-year life, and both Project C and D have 3-yar life. GEI's marginal corporate tax rate on taxable income is 40%. None of the projects will have any salvage value at the end of their respective lives.

1-a). Calculate Payback of each project and rank the four projects in order of preference based on payback approach.

1-b). Calculate IRR of each project and rank the four projects in order of preference based on IRR.

1-c). Assuming a 10% discount rate, calculate the NPV of the four projects and rank the projects in order of preference

1-d). If the projects are independent of each other, which should be accepted? If they are mutually exclusive, which one is best? Explain why.

Hint: You need to estimate the free cash flows (FCF) to the firm first, FCF = EBIT(1- tax rate) + depreciation - Gross fixed asset expenditure - change in net operating working capital. Specifically speaking, in this problem, FCF = (revenue - operating expense-depreciation)*(1 - marginal tax rate) + depreciation

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1. Growth Enterprise , Inc. (GEI) has $40 million that it can invest in any or all of the four capital investment projects (A, B, C, D), which have cash flows as shown in the following table.
Table 1. Comparison of Project Cash Flows ($ thousand dollars)
Project Type of cash flow Year 0 Year 1 Year 2 Year 3
A. Investment -$10,000 0 0 0
Revenue 0 $21,000 0 0
Operating expense 0 $11,000 0 0

B. Investment -$10,000 0 0 0
Revenue 0 $15,000 $17,000 0
Operating expense 0 $5,833 $7,833 0

C. Investment -$10,000 0 0 0
Revenue 0 $10,000 $11,000 $30,000
Operating expense 0 $5,555 $4,889 $15,555

D. Investment -$10,000 0 0 0
Revenue 0 $30,000 $10,000 $5,000
Operating expense 0 $15,555 $5,555 $2,222

Each of these projects is considered to be of equivalent risk. The investment will be depreciated to zero on a straight-line basis for tax purpose. For simplicity, the depreciation per year for a project is equal to the project investment value divided by the life of the project. Project A has 1-year life, Project B has two-year life, and both Project C and D have 3-yar life. GEI's marginal corporate tax rate on taxable income is 40%. None of the projects will have any salvage value at the end of their respective lives.
Hint: You need to estimate the free cash flows (FCF) to the firm first, FCF = EBIT (1 -tax rate) + depreciation - Gross fixed asset expenditure - change in net operating working capital. Specifically speaking, in this problem, FCF = (revenue - operating expense-depreciation)*(1 - marginal tax rate) + depreciation

1-a). Calculate Payback of each project and rank the four projects in order of preference based on payback approach.
Project ...

Solution Summary

The expert calculates payback, IRR and NPV for four projects.

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