Consider the following two mutually exclusive projects the net cash flows are given below

Different appraisal methods are then examined. Notice that the market value of the computer is not included. To make any estimate of cash flows over the uncertain future periods, certain assumptions have to be made.

Consider the following example. If you can invest these payments at 8. First, use nominal cash flows and nominal discount rates for the capital budgeting decision. Year 1 Year 2 Year 3 Year 4 Year 5 Cash Revenue,Cash Expenses 42, 44, 46, 48, 51, Depreciation 60, 60, 60, 60, 60, Taxes Paid 15, 17, 18, 20, 22, After-tax Cash 89, 93, 96, Calculate the PV of the cash flows: Optimistic assumptions often lead high cash flow estimates whereas pessimistic assumptions often lead low estimates.

Hence, the NPV rule always provides the correct investment decision. There are two alternatives available. The second firm is Graphics Inc. Another, quite serious weakness is the multiple IRR problem.

Plug it in and you should get zero or an insignificantly lower number that equates to zero.

Capital Budgeting: Evaluating The Desirability Of An Investment

Answer choices in this exercise appear in a different order each time the page is loaded. The highest net present value is found with Paint Inc.

This means that the firm should go ahead with acquisition. If the pure expectations theory is correct, what does the market believe that 2-year 1 answer The Houston Corp. Plug it in and you should get zero or an insignificantly lower number that equates to zero.

Now let's calculate the net present value of cash flows. This is just a quadratic equation. But this implicitly assumes that the firm is committed to go ahead with the projects!

Wrapping It All Up In sum, the capital budgeting process is the tool by which a company administers its investment opportunities in additional fixed assets by evaluating the cash inflows and outflows of such opportunities. Starbucks decision to buy Teavana will most certainly have a profound effect on the future cash flows of the coffee business as well as influence the decision making process of other future projects undertaken by Starbucks.

An independent project is one where the decision to accept or reject the project has no effect on any other projects being considered by the company. Intuitively, the fixed cost of closing an operation might be needlessly incurred if the price rose in the future. Currently, 2 answers Interest Rates on 4-year Treasury Securities are are currently 6.

Payback analysis is common to everyone in investment decisions, an example being the purchase of a hybrid car. The airport is to replace its current system. D00 Market value of old bondholders bonds before investment. Do keep in mind, however, that all capital projects, in the case of for-profit enterprises, should be made in the context of creating long-term shareholder value.

The second term in the NPV is ignored in the payback. This means that accepting one project does not affect decisions about the other project. The correct investment decision maximizes the market value of the firm.

It is simple to show that discounting nominal cash flows with the nominal rate is equivalent to discounting real cash flows with a real rate.Two projects being considered by a firm are mutually exclusive and have the following projected cash flows: Project A Cash Flow ($,) 39, 39, 39, Project B Cash Flow ($,) 0 4/4(7).

Example 1: Payback Period Assume that two gas stations are for sale with the following cash flows: According to the payback period, when given the choice between two mutually exclusive projects.

Answer to Consider the two mutually exclusive investment alternatives given in the table below. Net Cash Flow n Project A1 Project. Consider the following cash flows of two mutually exclusive projects for AZ-Motorcars.

Assume the discount rate for AZ-Motorcars is 10 percent.

NPV vs IRR

Year AZM Mini-SUV AZM Full-SUV 0 −$, −$, 1, 2, 3, a%(7). Consider the following cash flows of two mutually exclusive projects for AZ-Motorcars.

Capital Budgeting: The Capital Budgeting Process At Work

YEAR AZM MINI-SUV AZF FULL-SUV 0 -. Consider the following data for stocks A and B: The costs and the cash flows are given in the following table. The appropriate cost of capital is percent.

Internal Rate of Return

If the equipment is sold at the end of its fourth yea. 2 answers Garage, Inc., has identified the following two mutually exclusive projects: Year Cash Flow (A) Cash Flow (B) 0.

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Consider the following two mutually exclusive projects the net cash flows are given below
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