Preston Co. is evaluating two projects which have different useful lives but which have an equal investment requirement of $280,000. The estimated net cash flows from each project are as follows:
Year 1: Project 1 $55,000; Project 2 $55,000
Year 2: Project 1 $50,000; Project 2 $55,000
Year 3: Project 1 $45,000; Project 2 $55,000
Year 4: Project 1 $40,000; Project 2 $55,000
Year 5: Project 1 $40,000; Project 2 $55,000
Year 6: Project 1 $30,000
Year 7: Project 1 $15,000
Preston Co. has selected a rate of 16% for purposes of net present value analysis. Preston also estimates that there will be no residual value at the end of each project's useful life, but at the end of the fifth year, Project 1's residual value would be $60,000.
1) For each project, compute the net present value.
2) For each project, compute the net present value, assuming that Project 1 is adjusted to a five year life for purposes of analysis.
3) Determine which of the two projects is more attractive based upon your findings in (2) above.