3) You recently went to work for TIres & Inc Company, a supplier of auto repair parts used in the after-market with products from Daimler AG, Ford, Toyota, and other automakers. Your boss, the chief financial officer (CFO), has just handed you the estimated cash flows for two proposed projects. Project L involves adding a new item to the firm's ignition system line; it would take some time to build up the market for this product so that the cash inflows would increase over time. Project S involves an add-on to an existing line, and its cash flows would decrease over time. Both projects have 3-year lives because ABC is planning to introduce entirely new models after 3 years. Here are the net cash flows (in thousands of dollars):

Expected Net Cash flows

YEAR Project A Project B

0 ($200) ($200)

1 20 140

2 120 150

3 170 20

Depreciation, salvage values, net working capital requirements, and tax effects are all included in these cash flows.

The CFO also made subjective risk assessments of each project, and he concluded that both projects have risk characteristics that are similar to the firm's average project. ABC's WACC is 10%. You must determine whether one or both of the projects should be accepted.

a) What is the NPV of each project? According to NPV, which project(s) should be accepted if they are independent? Mutually exclusive?

b) What is the IRR of each project? According to IRR, which project(s) should be accepted if they are independent? Mutually exclusive?

c) What is the payback period for each project? According to the payback criterion, which project(s) should be accepted if the firm's maximum acceptable payback is two years if Projects L and S are independent?

d) What are the two main disadvantages of discounted payback? Is the payback method useful in capital budgeting decisions? Explain