If a company is considering three mutually exclusive projects/investment opportu

Question

If a company is considering three mutually exclusive projects/investment opportunities, and the associated projected cash flows are (inflows are received at the end of each year):

Year

a) Compute the payback period for each project.

b) Compute the Net Present Value (NPV) for each project, assuming a 8% required rate of return.

c) Compute the profitability Index for each project, assuming a 8% required rate of return.

d) Fully explain your logic, how would you decide between these three projects and which would you recommend?

Year

Opportunity #1 Opportunity #2 Opportunity #3 Initial Outlay -$1,200,000 -$1,300,000 -$1,200,000 1 300,000 0 0 2 300,000 0 700,000 3 300,000 0 0 4 300,000 0 700,000 5 300,000 0 0 6 300,000 2,450,000 700,000

Explanation / Answer

a)Pay back period for 1= 4 years

Pay back period for 2= 5+(-1300000+2450000)/2450000=5.469 years

Pay back period for 3= 3+(200000/700000)=3.286 years

b) for 1= -1200000+npv(8%,300000,300000,300000,300000,300000,300000)=$186,863.9

for 2=-1300000+npv(8%,0,0,0,0,0,2450000)=243,915.99

for 3=-1200000+npv(8%,0,700000,0,700000,0,700000)=355,776.81

c)for 1 :

PI=npv(8%,300000,300000,300000,300000,300000,300000)/1,200,000=1.16

for 2

PI=npv(8%,0,0,0,0,0,2450000)/1,300,000=1.19

for 3

PI=npv(8%,0,700000,0,700000,0,700000)/1,200,000=1.3

d)Amog the three it is better to choose which has highest NPV and PI and also lowest payback. So it is oppurtunity 3

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