Question Description
1) Anoma Inc. is considering two mutually exclusive projects. Each requires an initial investment of $100,000. John Shell, president of the company, has set a maximum payback period of 4 years. The after-tax cash inflows associated with each project are shown in the following table:
|
Year |
Cash inflow of Project A |
Cash inflow of Project B |
|
1 |
$ 10,000 |
$ 40,000 |
|
2 |
20,000 |
30,000 |
|
3 |
30,000 |
20,000 |
|
4 |
40,000 |
10,000 |
|
5 |
20,000 |
20,000 |
- Determine the payback period of each project.
- Because they are mutually exclusive, Shell must choose one. Which should the company invest in?
- Explain why one of the projects is a better choice than the other.
2) Neil Corporation has three projects under consideration. The cash flows for each project are shown in the following table. The firm has a 16% cost of capital.
|
Project A |
Project B |
Project C |
|
|
Initial Investment |
$40,000 |
$ 40,000 |
$ 40,000 |
|
Year |
Cash inflows ($) |
||
|
1 |
13,000 |
7,000 |
19,000 |
|
2 |
13,000 |
10,000 |
16,000 |
|
3 |
13,000 |
13,000 |
13,000 |
|
4 |
13,000 |
16,000 |
10,000 |
|
5 |
13,000 |
19,000 |
7,000 |
- Calculate each project’s payback period. Which project is preferred according to this method?
- Calculate each project’s net present value (NPV). Which project is preferred according to this method?
- Comment on your findings in parts a and b, and recommend the best project. Explain your recommendation.
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