Pedro Spier, the president of Spier Enterprises, is considering two investment o
ID: 2474529 • Letter: P
Question
Pedro Spier, the president of Spier Enterprises, is considering two investment opportunities. Because of limited resources, he will be able to invest in only one of them. Project A is to purchase a machine that will enable factory automation; the machine is expected to have a useful life of four years and no salvage value. Project B supports a training program that will improve the skills of employees operating the current equipment. Initial cash expenditures for Project A are $108,000 and for Project B are $44,000. The annual expected cash inflows are $41,719 for Project A and $15,101 for Project B. Both investments are expected to provide cash flow benefits for the next four years. Spier Enterprises’ cost of capital is 8 percent. (PV of $1 and PVA of $1) (Use appropriate factor(s) from the tables provided.)
Compute the approximate internal rate of return of each project.
Pedro Spier, the president of Spier Enterprises, is considering two investment opportunities. Because of limited resources, he will be able to invest in only one of them. Project A is to purchase a machine that will enable factory automation; the machine is expected to have a useful life of four years and no salvage value. Project B supports a training program that will improve the skills of employees operating the current equipment. Initial cash expenditures for Project A are $108,000 and for Project B are $44,000. The annual expected cash inflows are $41,719 for Project A and $15,101 for Project B. Both investments are expected to provide cash flow benefits for the next four years. Spier Enterprises’ cost of capital is 8 percent. (PV of $1 and PVA of $1) (Use appropriate factor(s) from the tables provided.)
Explanation / Answer
Project A
Year
CashFlow
PV Factor@ 8%
PV
0
(108,000)
1.0000
(108,000)
1
41,719
0.9259
38,629
2
41,719
0.8573
35,767
3
41,719
0.7938
33,118
4
41,719
0.7350
30,665
IRR
20.00%
NPV
30,179
Project B
Year
CashFlow
PV Factor@ 8%
PV
0
(44,000)
1.0000
(44,000)
1
15,101
0.9259
13,982
2
15,101
0.8573
12,947
3
15,101
0.7938
11,988
4
15,101
0.7350
11,100
IRR
14.00%
NPV
6,016
a-1) Compute the net present value of each project
NPV:
Project A=$30,179
Project B=$6,016
a-2) Which project should be adopted based on the net present value approach?
As Project NPV is higher select Project A
b-1) Compute the approximate internal rate of return of each project
IRR:
Project A=20%
Project B=14%
As Project IRR is higher select Project A
Project A
Year
CashFlow
PV Factor@ 8%
PV
0
(108,000)
1.0000
(108,000)
1
41,719
0.9259
38,629
2
41,719
0.8573
35,767
3
41,719
0.7938
33,118
4
41,719
0.7350
30,665
IRR
20.00%
NPV
30,179
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