Doug’s Custom Construction Company is considering three new projects, each requi
ID: 2500443 • Letter: D
Question
Doug’s Custom Construction Company is considering three new projects, each requiring an equipment investment of $26,840. Each project will last for 3 years and produce the following net annual cash flows.
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%. Click here to view PV table.
(a)
Compute each project’s payback period. (Round answers to 2 decimal places, e.g. 15.25.)
Which is the most desirable project?
Which is the least desirable project?
(b)
Compute the net present value of each project. (Enter negative amounts using either a negative sign preceding the number e.g. -45 or parentheses e.g. (45). Round final answers to the nearest whole dollar, e.g. 5,275. For calculation purposes, use 5 decimal places as displayed in the factor table provided.)
BB
CC
Which is the most desirable project based on net present value?
Which is the least desirable project based on net present value?
Year AA BB CC 1 $8,540 $12,200 $15,860 2 10,980 12,200 14,640 3 14,640 12,200 13,420 Total $34,160 $36,600 $43,920
Explanation / Answer
Compute each project’s payback period
AA $8,540 + 10,980 = $19,520; $26,840 - 19,520 = $7,320 / 14,640 third year = 0.5 + 2 =
2.5 years
BB $12,200 + 12,200 = $24,400; $26,840 - 24,400 = $2,440 / 12,200 third year =0.2 + 2 = 2.2years
CC $15,860 + 14,840 = $30,700; $26,840 - 30,700 = -3,860 / 13,420 = (0.29) + 2 = 1.71
Which is the most desirable project?
The most desirable project based on payback period is
Project CC
Because it has the lowest payback period
Which is the least desirable project?
The least desirable project based on payback period is
Project AA
Because it has the longest payback period
(b)
Compute the net present value of each project
$(26,840.00)
$(26,840.00)
$(26,840.00)
Year
AA
BB
CC
1
$8,540
12,200
$15,860
2
10,980
12,200
14,640
3
14,640
12,200
13,420
12%
12%
12%
NPV
($41.35)
$2,462.34
$8,543.72
Which is the most desirable project?
The most desirable project based on net present value is
Project CC
Because it has highest NPV
Which is the least desirable project based on net present value?
The least desirable project based on net present value is
Project AA
Because it has lowest or say negative NPV
The most desirable project based on payback period is
Project CC
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