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Vikki [24]
3 years ago
6

Giant Machinery Ltd is considering to invest in one of the two following Projects to buy a new equipment. Each project will last

5 years and have no salvage value at the end. The company’s required rate of return for all investment projects is 9%. The cash flows of the projects are provided below.
Project 1 Project 2 Cost $175, 000 $185 ,000 Future Cash Flows Year 1 Year 2 Year 3 Year 4 Year 5 76 ,000 83 ,000 67 ,000 65 ,000 55 ,000 87 ,000 78 ,000 69 ,000 65 ,000 57 ,000 Required: a) Identify which project should the company accept based on NPV method .(Note: Please round up the result of each calculation of PV to 2 decimal places only for simplification)
b) Identify which project should the company accept based on simple pay back method if the payback criteria is maximum 2 years .
c) Which project Giant Machinery should choose if two methods are in conflict .
Business
1 answer:
Nezavi [6.7K]3 years ago
8 0

Answer:

a) Identify which project should the company accept based on NPV method.

  • Project 2 has a higher NPV = $98,960

b) Identify which project should the company accept based on simple pay back method if the payback criteria is maximum 2 years.

  • Project 2 has a shorter payback period = 2 years and 5 months

c) Which project Giant Machinery should choose if two methods are in conflict.

  • If two projects are in conflict, then you must choose the project based on their NPV.

Explanation:

                              Project 1      Project 2

Cost                      $175, 000    $185 ,000

Future Cash Flows

Year 1                     $76,000    $83,000

Year 2                    $67,000    $65,000

Year 3                    $55,000    $87,000

Year 4                    $78,000    $69,000

Year 5                    $65,000    $57,000

NPV:

Project 1 = -175000 + 76000/1.09 + 67000/1.09² + 55000/1.09³ + 78000/1.09⁴ + 65000/1.09⁵ = $91,090

Project 2 = -185000 + 83000/1.09 + 65000/1.09² + 87000/1.09³ + 69000/1.09⁴ + 57000/1.09⁵ = $98,960

Payback:

Project 1 = -175000 - 76000 - 67000 = 32000 after 2 years, then 32000 / 55000 = 7 months

Project 2 = -185000 - 83000 - 65000 =  37000 after 2 years, then 37000 / 87000 = 5 months

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