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Capital Budgeting Solutions9

# Capital Budgeting Solutions9 - CFj =-\$500 CFj = \$400 CFj =...

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Old Exam Questions - Capital Budgeting - Solutions Page 81 of 96 Pages CFj = -\$500 CFj = \$400 CFj = \$400 CFj = \$400 Solve for IRR = 60.74% 78. Your company is thinking about taking on an investment project that will require an initial outlay of \$10,000,000 at time period zero. You believe that this project will produce expected after-tax cash flows of \$2,500,000 each year for 8 years (Years 1- 8). Given a cost of capital for this project of 10 percent, you can calculate that the expected NPV for this project is \$3,337,315.49 and its IRR is 18.62 percent. Assume now that the firm has the option of delaying the start of this project for 2 years. If they delay the project its cost at Year 2 will increase to \$12,500,000. The firm will also have better information about what the cash flows will actually be in Years 3-10 (still an 8-year project). Specifically, there is a 40 percent probability that the cash flow will be \$250,000, and a 60 percent chance that the cash flow would be \$4,000,000. Ignoring option pricing, determine the incremental NPV that will arise, as of time period zero, if the firm delays implementation of this project for 2 year. A. \$1,099,358.68 B. \$1,059,346.57 C. \$1,086,021.31 * D. \$1,046,009.20 E. \$1,072,683.94 As of Time Period 2 : NPV CF Option 1 = -\$12,500,000 + [\$250,000][PVIFA 10%,8 ] = - \$11,166,268.45 (will not take on project) NPV CF Option 2 = -\$12,500,000 + [\$4,000,000][PVIFA 10%,8 ] = \$8,839,704.79 (will take on project) Expected NPV if Delayed = (.40)(\$0.00) + (.60)(\$8,839,704.79) = \$5,303,822.87 As of Time Period 0 : Expected NPV if Delayed = (\$5,303,822.87) / (1.10) 2 = \$4,383,324.69 Incremental NPV = \$4,383,324.69 - \$3,337,315.49 = \$1,046,009.20 79. You are given the following cash flow information for a project. Given this information, and assuming that the correct risk-adjusted discount rate (WACC) to use is 14 percent, determine the net present value of this project. (Hint: you may also wish to solve for IRR for use with the next problem). Year Cash Flow Present Value

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Old Exam Questions - Capital Budgeting - Solutions Page 82 of 96 Pages 0 -\$10,000.00 1 \$8,000.00 2 -\$4,000.00 3 \$9,000.00 4 \$8,000.00 5 -\$3,000.00 Total * Year Cash Flow Present Value 0 -\$10,000.00 -\$10,000.00 1 \$8,000.00 \$7,017.54 2 -\$4,000.00 -\$3,077.87 3 \$9,000.00 \$6,074.74 4 \$8,000.00 \$4,736.64 5 -\$3,000.00 -\$1,558.11 Total \$3,192.95 Alternatively, CFj = -\$10,000.00 CFj = \$ 8,000.00 CFj = -\$ 4,000.00 CFj = \$ 9,000.00 CFj = \$ 8,000.00 CFj = -\$ 3,000.00 I/YR = 14 Solve for NPV = \$3,192.95 Solve for IRR = 29.2394% (not needed for this problem)
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