Cash flows of two mutually exclusive projects are as follows. Project A costs $8

Question

Cash flows of two mutually exclusive projects are as follows. Project A costs $80,000 initially and will have a $15,000 salvage value after 3 years. The operating cost with this method will be $30,000 per year. Project B has initial cost of $120,000, an operating cost of $8,000 per year, and a $40,000 salvage value after its 3-year life. Assume the interest rate is 10% per year. Which of the following statements is true?

A. Two projects have different life cycle

B. Project A should be selected.

C. The present worth of project A is -$143,252.17.

D. The present worth of project B is -$109,842.22.

Explanation / Answer

NPV for project A = ($80,000) + ($30,000)/(1 + 0.1)1 + ($30,000)/(1 + 0.1)2 + ($30,000)/(1 + 0.1)3 + $15,000/(1 + 0.1)3

                             = $(143,335.84)

NPV for project B = ($120,000) + ($8,000)/(1 + 0.1)1 + ($8,000)/(1 + 0.1)2 + ($8,000)/(1 + 0.1)3 + $40,000/(1 + 0.1)3

                             = $(109,842.22)

The true statement is

D. The present worth of project B is -$109,842.22.

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