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 .

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jepessoa jepessoa · Answer 1 · 2020-06-19T07:53:12+02:00

Answer:

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

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.

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