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ID: 2488231 • Letter: #
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(b)
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Doug’s Custom Construction Company is considering three new projects, each requiring an equipment investment of $29,480. Each project will last for 3 years and produce the following net annual cash flows.Year AA BB CC 1 $9,380 $13,400 $17,420 2 12,060 13,400 16,080 3 16,080 13,400 14,740 Total $37,520 $40,200 $48,240
The equipment’s salvage value is zero, and Doug uses straight-line depreciation. Doug will not accept any project with a cash payback period over 2 years. Doug’s required rate of return is 12%. (Refer the below table)
Explanation / Answer
AA Bb CC Year Discount factor 12% D Cash Flows A Cumulative cash flows Discounted Cash Flow A*D Cash Flows B Cumulative cash flows Discounted Cash Flow B*D Cash Flows C Cumulative cash flows Discounted Cash Flowc*D 0 1 -29480 -29480 -29480 -29480 -29480 -29480 -29480 -29480 -29480 1 0.8929 9380 -20100 8375.402 13400 -16080 11964.86 17420 -12060 15554.318 2 0.7972 12060 -8040 9614.232 13400 -2680 10682.48 16080 4020 12818.976 3 0.7118 16080 8040 11445.74 13400 10720 9538.12 14740 18760 10491.932 NPV -44.622 2705.46 9385.226 Rounded off -45 2705 9385 Payback for BB (even cash flows) 29840/13400 2.23 years Payback for uneven cash flows A+B/C A is the last period with a negative cumulative cash flow; B is the absolute value of cumulative cash flow at the end of the period A; C is the total cash flow during the period after A Payback for AA 2+(8040/16080) 2.5 years Payback foe CC 1+(12060/16080) 1.75 years Ans payback Period NPV AA 2.5 Least desirable -45 Least desirable BB 2.23 $2705 CC 1.75 Most desirable $9385 Most desirable
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