The first two parts are related; the last three are independent of all other parts. Assume all cash flows are after-tax cash flows.
1. Randy Willis is considering investing in one of the following two projects. Either project will require an investment of $10,000. The expected cash flows for the two projects follow. Assume each project is depreciable.
Year
|
Project A
|
Project B
|
|
1
|
$ 3,000
|
$3,000
|
|
2
|
4,000
|
4,000
|
|
3
|
5,000
|
6,000
|
|
4
|
10,000
|
3,000
|
|
5
|
10,000
|
3,000
|
What is the payback period for each project? If rapid payback is important, which project should be chosen? Which would you choose?
2. Calculate the accounting rate of return for each project in Requirement 1 (the expected cash flows are the difference between cash revenues and cash expenses). Which project should be chosen based on the accounting rate of return?
3. Wilma Golding is retiring and has the option to take her retirement as a lump sum of $225,000 or to receive $24,000 per year for 20 years. Wilma's required rate of return is 8 percent. Assuming she will live for another 20 years, should she take the lump sum or the annuity?
4. David Booth is interested in investing in some tools and equipment so that he can do independent dry walling. The cost of the tools and equipment is $20,000. He estimates that the return from owning his own equipment will be $6,000 per year. The tools and equipment will last six years. Assuming a required rate of return of 8 percent, calculate the NPV of the investment. Should he invest?
5. Patsy Folson is evaluating what appears to be an attractive opportunity. She is currently the owner of a small manufacturing company and has the opportunity to acquire another small company's equipment that would provide production of a part currently purchased externally. She estimates that the savings from internal production would be $25,000 per year. She estimates that the equipment would last 10 years. The owner is asking $130,400 for the equipment. Her company's cost of capital is 10 percent. Calculate the project's internal rate of return. Should she acquire the equipment?