Peter and the wolf Free Essay, Term Paper and Book Report
Chapter 12 Problems
7. X-treme Vitamin Company is considering two investments, both of which cost $10,000. The cash flows are as follows:
Year Project A Project B
1 . . . . . . . . . . $12,000 $10,000
2 . . . . . . . . . . 8,000 6,000
3 . . . . . . . . . . 6,000 16,000
a. Which of the two projects should be chosen based on the payback method?
b. Which of the two projects should be chosen based on the net present value method? Assume a cost of capital of 10 percent.
c. Should a firm normally have more confidence in answer a or answer b?
a. Payback for Project A
Since only $10,000 has to be recovered in year 1, while the cash inflow for year 1 = $12,000, then to calculate the fraction of year 1 in which the investment would be recovered:
$10,000/$12,000 = 0.833 Years = 10 months
Payback for Project B
$10,000 ¡V $10,000 1 year
Choose project A
b. NPV for Project A
Year Cash flow Present value @ 10%
1 $12,000 $10,909.2
2 8,000 6,611.2
3 6,000 4,507.8
Present value of inflows $22,028.2
Initial investment 10,000
......
Word Count: 1413
Page Count: 5.6 (250 words a page / double spaced)
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