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mutually exclusive investments

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Capital
rationing and
mutually exclusive
investments (Excel)

19 Oliver Stone and Rock Company uses a process of capital rationing in its
decision making. The firm's cost of capital is 12 percent. It will invest only
$80,000 this year. It has determined the internal rate of return for each of the
following projects.

Percent of
Internal Rate
Project Project Size of Return
A . . . . . . . . . . $15,000 14%
B . . . . . . . . . . 25,000 19
C . . . . . . . . . . 30,000 10
D . . . . . . . . . . 25,000 16.5
E . . . . . . . . . . 20,000 21
F . . . . . . . . . . 15,000 11
G . . . . . . . . . . 25,000 18
H . . . . . . . . . . 10,000 17.5
a. Pick out the projects that the firm should accept.
b. If Projects B and G are mutually exclusive, how would that affect your
overall answer? That is, which projects would you accept in spending the
$80,000?

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Solution Preview

The investment decisions of a firm are generally known as the capital budgeting, or capital expenditure decisions. The firm's investment decisions would generally include expansion, acquisition, modernization and replacement of the long-term assets. Sale of a division or business (divestment) is also as an investment decision.
Decisions like the change in the methods of sales distribution, or an advertisement campaign or ...

Solution Summary

The investment decisions of a firm are assessed.

$2.19
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Mutually Exclusive Investments Explained in this Solution

Frank Zanca is considering three different investments that his broker has offered to him. The different cash flows are as follows: (6 points)

End of Year A B C
1 300 400
2 300
3 300
4 300 300 600
5 300
6 300
7 300
8 300 600

Because Frank has enough savings for only one investment, his broker has proposed the third alternative to be, according to his expertise, the best in town. However, Frank questions his broker and wants to eliminate the present value of each investment. Assuming a 15% discount rate, what is Frank's best alternative?

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