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Capital Budgeting and Constant Growth Stock

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1- Risk Adjusted NPV:
The Bingo manufacturing corp. Use a cost a capital of 15% to evaluate average risk project and its adds or subtract 3% points to evaluate projects or more or less risk. Currently two mutually exclusive project are under consideration. Both have a cost of \$400,000 at will last 4 years. Project A a risker than average project, will produce a annual end cash flow average risk, will produce cash flow \$150,000. project B of less than average risk, will produce cash flow of \$275,00 at the end of the year 3 and 4 only. Given the information provided Bingo should accept which investment and why?

2-As the director of capital budgeting for Bingo Corporation, you are evaluating two mutually exclusive projects with net cash flow.

Cash Flow

A B

-150,000 -225.000
1) 55,000 85,000
2) 70,000 55,000
3) 70,000 65,000
4) 75,000 55,000
5) 80,000 65,000

If Bingo Corporation cost of capital is 10%, defend which project would you choose.

3-Constant Growth Stock

The last dividend paid by ABC Company was \$30. , ABC's growth rate is expected to be a constant 4%, ABC required rate of return an equity (ks) 9%, what is the current price of ABC common stock?

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Solution Preview

1 The Bingo manufacturing corp. Use a cost a capital of 15% to evaluate average risk project and its adds or subtract 3% points to evaluate projects or more or less risk. Currently two mutually exclusive project are under consideration. Both have a cost of \$400,000 at will last 4 years. Project A a risker than average project, will produce a annual end cash flow average risk, will produce cash flow \$150,000. project B of less than average risk, will produce cash flow of \$275,00 at the end of the year 3 and 4 only. Given the information provided Bingo should accept which investment and why?

We will use NPV (Net Present value method) to evaluate the projects

Net Present Value

To calculate the NPV (Net Present Value) we discount the cash flow at the given discount rates

Project A
Year Cash flow PV factor @18.% Discounted cash flow=
18% (Riskier than Average risk project; discount rate =15%+3%=18%)
0 (400,000) 1 -400,000 =-400000*1 Initial investment is \$400,000; since it is an outflow it has been shown as a negative ...