Robben Manufacturing has the following two possible projects. The required retur

Question

Robben Manufacturing has the following two possible projects. The required return is 11 percent. Year Project Y Project Z 0 –$ 27,800 –$ 58,000 1 13,800 18,000 2 12,200 29,000 3 14,600 16,000 4 10,200 27,000 a. What is the profitability index for each project? (Do not round intermediate calculations and round your answers to 3 decimal places, e.g., 32.161.) Profitability index Project Y Project Z b. What is the NPV for each project? (Do not round intermediate calculations and round your answers to 2 decimal places, e.g., 32.16.) NPV Project Y $ Project Z $ c. Which, if either, of the projects should the company accept?

Explanation / Answer

Solution: a. Profitability index Project Y 1.429 Project Z 1.194 b. NPV Project Y 11,928.68 Project Z 11,238.07 c. Accept Project Y with higher NPV, Profitability index cannot be used rank project which are mutually exclusive Working Notes: Project Y Project Z Year PVF @ 11% Cash Flow Present value Cash Flow Present value 0 1                -27,800.00           (27,800.000) -58,000 -58,000.000 1                                    0.900901                  13,800.00             12,432.432 18,000 16,216.216 2                                    0.811622                  12,200.00               9,901.794 29,000 23,537.051 3                                    0.731191                  14,600.00             10,675.394 16,000 11,699.062 4                                    0.658731                  10,200.00               6,719.056 27,000 17,785.736 NPV of Project Y               11,928.68 NPV of Project Z 11,238.07 Notes: PVF is calculated @ r% = 1/(1+r%)^n     where n is the period for which PVF is calculated. Profitability Index = PV of Inflows / PV of outflows PV of inflows = Present value of cash inflows from year 1 to 4 Project Y from above table =+12,432.43 +9,901.794 + 10,675.394 +6,719.056 PV of inflows =$39,728.6762 PV of outflows = Present value of cash out flows and in our case out flows is at initial stage years = 0. = Cost of expansion = 27,800 Profitability Index = PV of Inflows / PV of outflows =39,728.676/27,800 =1.429089 =1.429 Project Z from above table =+16,216.21622 +23,537.0506 + 11,699.0621 +17,785.7363 PV of inflows =$69,238.06518 PV of outflows = Present value of cash out flows and in our case out flows is at initial stage years = 0. = Cost of expansion = 58,000 Profitability Index = PV of Inflows / PV of outflows =69,238.06518/58,000 1.19375974 =1.194 Please feel free to ask if anything about above solution in comment section of the question.

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