3. Problem 16-53 Ranking Investment Proposals; NPV versus Profitability Index; Taxes (Section 2) (LO 16-4, 16-6, 16-7)

The owner of Waco Waffle House is considering an expansion of the business. He has identified two alternatives, as follows:

• Build a new restaurant near the mall.
• Buy and renovate an old building downtown for the new restaurant.

The projected cash flows from these two alternatives are shown below. The owner of the restaurant uses a 12 percent after-tax discount rate.

Investment

Proposal

Cash Outflow:

Time 0

Net After-Tax Cash Inflows*

Years 1-10

Years 11-20

Mall restaurant

$

315,000

$

45,000

$

45,000

Downtown restaurant

140,500

28,000

* Includes after-tax cash flows from all sources, including incremental revenue, incremental expenses, and depreciation tax shield.

UseAppendix Afor your reference.(Use appropriate factor(s) from the tables provided.)

Required:

1.Compute the net present value of each alternative restaurant site.

2.Compute the profitability index for each alternative.

3.How do the two sites rank in terms of NPV and the profitability index?