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25 August, 08:50

You are considering two independent projects that have differing requirements.

Project A has a required return of 12 percent compared to Project B's required return of 13.5 percent. Project A costs $75,000 and has cash flows of $21,000, $49,000, and $12,000 for Years 1 to 3, respectively.

Project B has an initial cost of $70,000 and cash flows of $15,000, $18,000, and $41,000 for Years 1 to 3, respectively.

Which of the two should you accept/reject? Explain.

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  1. 25 August, 12:49
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    I will accept Project "B."

    Explanation:

    Though, Project B has a higher required Return on Investment ROI which is 13.5% but has a progressive increasing cash flow of Project B has an initial cost of $70,000 and cash flows of $15,000, $18,000, and $41,000 for Years 1 to 3, respectively.

    Analysis of the Cash Flow:

    $18,000.00 - $15,000.00 = $3,000.00

    $41,000.00 - $18000.00 = $23,000.00.

    ∴ with Initial Outlay of $70,000.00

    $3,000.00 + $23,000.00 = $26,000.00

    while

    Project A has a retrogressive trend of cash flow of $21,000.00

    ∴$49,000.00 - $21,000.00 = $28,000.00

    $28,000.00 - $12,000.00 = $16,000.00

    Therefore comparing the two figures from Project A & B respectively:

    Project A = $16,000.00

    Project B = $26,000.00

    It shows a deficit of $10,000.00 for Project B & surplus of $10,000.00 for Project A in the 3 years of required ROI.
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