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Bonita Company is considering two different, mutually exclusive capital expenditure proposals. Project A will cost $459,000, has an expected useful life of 11 years, a
Bonita Company is considering two different, mutually exclusive capital expenditure proposals. Project A will cost $459,000, has an expected useful life of 11 years, a salvage value of zero, and is expected to increase net annual cash flows by $74,600. Project B will cost $274,000, has an expected useful life of 11 years, a salvage value of zero, and is expected to increase net annual cash flows by $46,200. A discount rate of 9% is appropriate for both projects. Click here to view PV table. Compute the net present value and profitability index of each project. (If the net present value is negative, use either a negative sign preceding the number eg -45 or parentheses eg (45). Round present value answers to O decimal places, e.g. 125 and profitability index answers to 2 decimal places, e.g. 15.25. For calculation purposes, use 5 decimal places as displayed in the factor table provided.) Net present value - Project A tA Profitability index - Project A Net present value - Project B to Profitability index - Project BWhich project should be accepted based on Net Present Value? V should be accepted. Which project should be accepted based on profitability index? v should be accepted.SOLUTION: Bonita Company Step 1: Compute the net present value The net present value method compares the present value of a project's cash inflows to the present value of its cash outows. The difference between the present value of these cash ows, called the net present value , determines whether or not a project is an acceptable investment. ProjectA Project 5 Net annual cash flows $ 74,600 $ 46,200 x 9% Present Value Factor 6.80519 6.80519 PV of cash inflows 507,667 314,400 Initial investment 459,000) 274,000) Net present value $ 48,667 $ 40,400 Based on the NPV, Project A should be chosen. Step 2: Compute the profitability index Project A Project 8 PV of cash inflows $ 507,667 $ 314,400 + Initial investment 459,000 274,000 Profitability index 1.11 1.15 When using the project profitability index to rank competing investments projects, the preference rule is: The higher the project profitability index, the more desirable the project. Applying this rule to the two investments above, Project B should be chosen over Project A
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