Your company is trying to decide which one of two projects it should accept. Both projects have the same start-up costs. Project 1 will produce annual cash flows of $52 000 at the end of each year for six years. Project 2 will produce cash flows of $39 000 at the beginning of each year for eight years. The company requires a 15% return. Required:

a. Which project should the company select and why?

b. Which project should the company select if the interest rate is 12% at the cash flows in Project 2 is also at the end of each year?

Question

Business

Hadassah Wu

12 September, 03:32

Your company is trying to decide which one of two projects it should accept. Both projects have the same start-up costs. Project 1 will produce annual cash flows of $52 000 at the end of each year for six years. Project 2 will produce cash flows of $39 000 at the beginning of each year for eight years. The company requires a 15% return. Required:

a. Which project should the company select and why?

b. Which project should the company select if the interest rate is 12% at the cash flows in Project 2 is also at the end of each year?

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Answers (1)

Know the Answer?

Amaris Livingston · Answer 1

a) Project 2 should be selected

b) Project 1 should be selected

Explanation:

We would compute the Present Value (PV) of the cash inflows from the the two projects and compare them.

PV of cash inflow = A * (1 - (1+r) ^ (-n) / r

A-cash inflow, r - required return, n - number of years

Project A = 52,000 * (1 - 1.15^ (-6) / 0.15 = 196,793.1

Project 2 = 39,000 + ((1 - 1.15^-7) / 0.15 = 201,256.36

Project 2 should be selected

Project 1 = 52,000 * (1 - 1.12^ (-6) / 0.15=213,793.1808

Project 2 = 39,000 + ((1 - 1.12^-8) / 0.15 = 193,737.9509

Project 1 should be selected