Question
Alternative Capital Investments The investment committee of Sentry Insurance Co. is evaluating two projects, office expansion and upgrade to computer servers. The projects have different
Alternative Capital Investments
The investment committee of Sentry Insurance Co. is evaluating two projects, office expansion and upgrade to computer servers. The projects have different useful lives, but each requires an investment of $490,000. The estimated net cash flows from each project are as follows:
The committee has selected a rate of 12% for purposes of net present value analysis. It also estimates that the residual value at the end of each project's useful life is $0; but at the end of the fourth year, the office expansion's residual value would be $180,000.
1. For each project, compute the net present value. Use the present value of an annuity of $1 table above. Ignore the unequal lives of the projects. If required, round to the nearest dollar.
Office Expansion | Server Upgrade | |
Present value of annual net cash flows | $ | $ |
Less amount to be invested | $ | $ |
Net present value | $ | $ |
2. For each project, compute the net present value, assuming that the office expansion is adjusted to a four-year life for purposes of analysis. Use the present value of $1 table above.
Office Expansion | Server Upgrade | |
Present value of net cash flow total | $ | $ |
Less amount to be invested | $ | $ |
Net present value | $ | $ |
1. For each project, multiply the annual net cash flow by the present value of an annuity factor (6 periods at 12% for office expansion; 4 periods at 12% for server upgrade; Exhibit 5). Subtract the amount to be invested.
2. For each proposal, multiply the present value factor by the net cash flow, including the residual value for office expansion. Subtract the amount to be invested from the total present value of the net cash flow.
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