CAPITAL BUDGETING PRACTICE PROBLEMS

1. Andrew Systems is considering a project that has the following cash flow and WACC data. What is the project's NPV?

WACC: 9.00%

Year 0 1 2 3

Cash flows -$1,000 $500 $500 $500

2. T Inc. is considering a project that has the following cash flow data. What is the project's IRR? Note that a project's projected IRR can be less than the WACC or negative, in both cases it will be rejected.

Year 0 1 2 3 4 5

Cash flows -$1,250 $325 $325 $325 $325 $325

3. R Inc. is considering a project that has the following cash flow data. What is the project's payback?

Year 0 1 2 3

Cash flows -$350 $200 $200 $200

4. Ingot Electric Products is considering a project that has the following cash flow and WACC data. What is the project's MIRR? Note that a project's projected MIRR can be less than the WACC (and even negative), in which case it will be rejected.

WACC: 11.00%

Year 0 1 2 3

Cash flows -$800 $350 $350 $350

5. Mast Inc. is considering a project that has the following cash flow and WACC data. What is the project's discounted payback?

WACC: 10.00%

Year 0 1 2 3 4

Cash flows -$950 $525 $485 $445 $405

6. Tecla Chemicals is considering Projects S and L, whose cash flows are shown below. These projects are mutually exclusive, equally risky, and not repeatable. The CEO believes the IRR is the best selection criterion, while the CFO advocates the NPV. If the decision is made by choosing the project with the higher IRR rather than the one with the higher NPV, how much, if any, value will be forgone, i.e., what's the chosen NPV versus the maximum possible NPV? Note that (1) true value is measured by NPV, and (2) under some conditions the choice of IRR vs. NPV will have no effect on the value gained or lost.

WACC: 7.50%

Year 0 1 2 3 4

CFS -$1,100 $550 $600 $100 $100

CFL -$2,700 $650 $725 $800 $1,400

7. Nestle Inc. is considering Projects S and L, whose cash flows are shown below. These projects are mutually exclusive, equally risky, and not repeatable. If the decision is made by choosing the project with the higher MIRR rather than the one with the higher NPV, how much value will be forgone? Note that under some conditions choosing projects on the basis of the MIRR will cause $0.00 value to be lost.

WACC: 8.75%

Year 0 1 2 3 4

CFS -$1,100 $375 $375 $375 $375 CFL -$2,200 $725 $725 $725 $725

8. N Drilling Inc. is considering Projects S and L, whose cash flows are shown below. These projects are mutually exclusive, equally risky, and not repeatable. The CEO believes the IRR is the best selection criterion, while the CFO advocates the MIRR. If the decision is made by choosing the project with the higher IRR rather than the one with the higher MIRR, how much, if any, value will be forgone, i.e., what's the NPV of the chosen project versus the maximum possible NPV? Note that (1) true value is measured by NPV, and (2) under some conditions the choice of IRR vs. MIRR will have no effect on the value lost.

WACC: 7.00%

Year 0 1 2 3 4

CFS -$1,100 $550 $600 $100 $100 CFL -$2,750 $725 $725 $800 $1,400

9. Project H requires an initial investment of $100,000 and the produces annual cash flows of $45,000 per year for each of the next 3 years. Project T also requires an initial investment of $100,000 and produces cash flows of $30,000 in year 1, $40,000 in year 2, and $70,000 in year 3. If the discount rate is 10% and the projects are mutually exclusive, which project should be chosen?

10. Fibre Armored Car can purchase a new vehicle for $200,000 that will provide annual net cash flow over the next five years of $40,000, $45,000, $50,000, $55,000, $60,000. The salvage value of the vehicle will be $25,000. Assume that the vehicle is sold at the end of year 5. Calculate the NPV of the ambulance if the required rate of return is 9%. (Round your answer to the nearest $1.)

11. Watermark Inc. is considering the purchase of copying equipment that will require an initial investment of $15,000 and $4,000 per year in annual operating costs over the equipment's estimated useful life of 5 years. The company will use a discount rate of 8.5%. What is the equivalent annual cost?

12. You have been asked to analyze a capital investment proposal. The project's cost is $2,775,000. Cash inflows are projected to be $925,000 in Year 1; $1,000,000 in Year 2; $1,000,000 in Year 3; $1,000,000 in Year 4; and $1,225,000 in Year 5. Assume that your firm discounts capital projects at 15.5%. What is the project's NPV?

13. Webster Corp. is considering two expansion options, but does not have enough capital to undertake both, Project W requires an investment of $100,000 and has an NPV of $10,000. Project D requires an investment of $80,000 and has an NPV of $8,200. If Webley uses the profitability index to decide, it would choose which project?

14. Mandeep Candles is considering a project with the following incremental cash flows. Assume a discount rate of 10%.

Year Cash Flow

0 ($20,000)

1 0

2 $30,000

3 $30,000

Calculate the project's MIRR. (Round to the nearest whole percentage.)

15. Mona Manufacturing Company is considering a three-year project that has a cost of $75,000. The project will generate after-tax cash flows of $33,100 in Year 1, $31,500 in Year 2, and $31,200 in Year 3. Assume that the firm's proper rate of discount is 10% and that the firm's tax rate is 40%. What is the project's payback?

16. Analysis of a machine indicates that it has a cost of $5,375,000. The machine is expected to produce cash inflows of $1,825,000 in Year 1; $1,775,000 in Year 2; $1,630,000 in Year 3; $1,585,000 in Year 4; and $1,650,000 in Year 5. What is the machine's IRR?

17. WKM Inc. is analyzing a project that requires an initial investment of $10,000, followed by cash inflows of $1,000 in Year 1, $4,000 in Year 2, and $15,000 in Year 3. The cost of capital is 10%. What is the profitability index of the project?

18. Fab Fudge has a project with an initial outlay of $40,000, followed by three years of annual incremental cash flows of $35,000. At the end of the third year, equipment will be sold producing additional cash flow of $10,000. Assuming a cost of capital of 10%, calculate the MIRR of the project.

19. You have been asked to analyze a capital investment proposal. The project's cost is $2,775,000. Cash inflows are projected to be $925,000 in Year 1; $1,000,000 in Year 2; $1,000,000 in Year 3; $1,000,000 in Year 4; and $1,225,000 in Year 5. Assume that your firm discounts capital projects at 15.5%. What is the project's MIRR?

20. What is the payback period for a $20,000 project that is expected to return $6,000 for the first two years and $3,000 for Years 3 through 5?

21. Project N requires an initial investment of $500,000. The present value of operating cash flows is $550,000. Project D requires an initial investment of $750,000. The present value of operating cash flows is $810,000.

a. Compute the profitability index for each project.

b. If the projects are mutually exclusive, does the profitability index rank them correctly?

22. Aryan Chemicals is evaluating a project whose expected cash flows are as follows: Year Cash flow

0 -850,000

1 150,000

2 480,000

3 410,000

4 300,000

The cost of capital for Aryan chemicals is 11 percent

i. What is the NPV of the project?

ii. What is the IRR of the project?

iii. What is the MIRR if the reinvestment rate is 16%?

23. Chawla & Co. has an opportunity to invest in one of the two mutually exclusive machines which will produce a product it will need for the foreseeable future. Machine A costs $10 million but realizes after-tax inflows of $4 million per year for 4 years. After 4 years, the machine must be replaced. Machine B costs $ 15 million and realizes after tax-tax inflows of $3.5 million per year for 8 years, after which it must be replaced. Assume that machine prices are not expected to rise because of inflation. If the cost of capital is 10%, which machine should the company use?

24. Cummins India is considering two mutually exclusive investments. The projects net cash flows are as follows:

Expected Net Cash Flows

Year	Project A	Project B
0	($300)	($405)
1	(387)	134
2	(193)	134
3	(100)	134
4	600	134
5	600	134
6	850	134
7	(180)	0

1. Construct NPV profiles for Project A and B

2. What is each projects IRR?

3. If you were told that each projects cost of capital was 10%, which project should be selected?

4. If the cost of capital was 17%, what would be the proper choice?

5. What is the projects MIRR at a cost of capital of 10%?

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