11. Caledonia is considering two investments with oneyear lives. The more
expensive of the two
is the better and will produce more savings. Assume these projects are mutually
exclusive and
that the required rate of return is 10 percent. Given the following aftertax net cash
flows:
YEAR
PROJECT A
PROJECT B
0
$195,000
−$1,200,000
1
240,000
1,650,000
a. Calculate the net present value.
b. Calculate the profitability index.
c. Calculate the internal rate of return.
d. If there is no capitalrationing constraint, which project should be selected? If
there is a capitalrationing constraint, how should the decision be made?
a. Calculate the net present value.
For
project A
: we look into
Present Value of $1 table
to see the factor for
$240,000
one year from now at 10% which is 0.909
0.909*240,000 = 218,160
Then we subtract 218,160 – 195,000 and we get the NPV of $23,160
Same thing for
project B
: 0.909*1,650,000 = 1,499,850
Then we subtract 1,499,850 – 1,200,000 = $299,850
b. Calculate the profitability index
PROJECT A
Profitability Index:
Present Value of Future Cash Flows
$218,160
Initial Investment
$195,000
Profitability Index
1.12
PROJECT B
Profitability Index:
Present Value of Future Cash Flows
$
1,499,850
Initial Investment
$
1,200,000
Profitability Index
1.25
This preview has intentionally blurred sections. Sign up to view the full version.
View Full Documentc. Calculate the internal rate of return
PROJECT A
Year
Cash Flow
0
($195,000)
1
$240,000
IRR
23%
PROJECT B
Year
Cash Flow
0
($1,200,000)
This is the end of the preview.
Sign up
to
access the rest of the document.
 Spring '11
 Emil
 Mutually Exclusive, Net Present Value, Internal rate of return, EAA

Click to edit the document details