Wii Brothers, a game manufacturer, has a new idea for an adventure game. It can

Question

Wii Brothers, a game manufacturer, has a new idea for an adventure game. It can market the game either as a traditional board game or as an interactive DVD, but not both. Consider the following cash flows of the two mutually exclusive projects for the company. Assume the discount rate is 12 percent.

  

  

What is the payback period for each project? (Do not round intermediate calculations and round your answers to 2 decimal places, e.g., 32.16.)

  

    

What is the NPV for each project? (Do not round intermediate calculations and round your answers to 2 decimal places, e.g., 32.16.)

  

  

What is the IRR for each project? (Do not round intermediate calculations and enter your answers as a percent rounded to 2 decimal places, e.g., 32.16.)

  

    

What is the incremental IRR? (Do not round intermediate calculations and enter your answer as a percent rounded to 2 decimal places, e.g., 32.16.)

  

Wii Brothers, a game manufacturer, has a new idea for an adventure game. It can market the game either as a traditional board game or as an interactive DVD, but not both. Consider the following cash flows of the two mutually exclusive projects for the company. Assume the discount rate is 12 percent.

Explanation / Answer

a.

Payback period

Board game

1.82 years

DVD

1.74 years

Explanation:

Board Game

DVD

Year

Cash Flow CB

‘CUM Cash Flow

Cash Flow CD

‘CUM Cash Flow

0

($1,450)

($1,450)

($3,200)

($3,200)

1

$470

($980)

$2,000

($1,200)

2

$1,200

$220

$1,620

$420

3

$260

$480

$1,050

$1,470

Payback Period = A +B/C

Where,

A = Last period with a negative cumulative cash flow

B = Absolute value of cumulative cash flow at the end of the period A

C = Total cash flow during the period after A

Payback Period Board game = 1 +$ (980) /$ 1,200

                           = 1+ ($ 980/$1,200) = 1 + 0.816667 = 1.82 years

Payback Period DVD = 1 +$ (1,200) /$ 1,620

                           = 1+ ($ 1,200/$1,620) = 1 + 0.740741 = 1.74 years

b.

NPV

Board game

$ 111.34

DVD

$ 624.54

Explanation:

Board Game

DVD

Board Game

DVD

Year

Cash Flow CB

Cash Flow CD

PV Factor Calculation

PV Factor F @ 12%

PV (= CB x F)

PV (= CD x F)

0

($1,450)

($3,200)

1/(1+0.12)^0

1

($1,450.00)

($3,200.00)

1

$470

$2,000

1/(1+0.12)^1

0.892857143

$419.64

$1,785.71

2

$1,200

$1,620

1/(1+0.12)^2

0.797193878

$956.63

$1,291.45

3

$260

$1,050

1/(1+0.12)^3

0.711780248

$185.06

$747.37

NPV

$111.34

$624.54

c.

IRR

Board game

16.59%

DVD

24.40%

Explanation:

Year

Cash Flow CBBoard Game

Cash Flow CD

DVD

0

($ 1,450)

($ 3,200)

1

$     470

$   2,000

2

$ 1,200

$   1,620

3

$    260

$   1,050

IRR

16.59%

24.40%

Excel formula for IRR is “= IRR(Cell no:Cell no)

d.

Incremental IRR

31.69 %

Explanation:

Year

Incremental Cash Flow (CD – CB)

0

($ 1,750)

1

$ 1,530

2

$     420

3

$     790

IRR

31.69%

Excel formula for Incremental IRR is “= IRR(Cell no:Cell no)

Based on Payback period, NPV and IRR, Project DVD should be preferred.

Also incremental IRR suggests Project DVD, as the incremental IRR is higher than company’s discount rate project with higher investment should be selected.

Payback period

Board game

1.82 years

DVD

1.74 years

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