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Using Rate of Return to Select a Project

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Company X is debating a project. The sales are expected to be 15 000 units for each of 5 years after that the machinery will be discarded (assume zero value at that time). The price of the unit might be either $13.50 or $13.70 with equal probabilities. Variable costs are $4.30 per unit and Fixed costs are $49 000 per year. The initial investment of $275000 can be depreciated along straight line to zero during the life of the project.

Required return is 13%, taxes are 34% and there is no change in NWC. Will you accept the project? Why or why not? (Assume taxes are paid at the end of each project's year.).

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The solution uses a rate of return to select a project.

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First, the most important concept of evaluating these investments is the NPV. NPV is defined as the difference between an investment's market value and its cost. NPV is a discounted cash flow technique, which explicitly recognize the ...

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