Question
Diane is a financial analyst working for a large chain of discount retail stores. Her company is looking at the possiblity of replacing the existing
Diane is a financial analyst working for a large chain of discount retail stores. Her company is looking at the possiblity of replacing the existing fluourescent lights in all of its stores with LED lights. The main advantage of making this switch is that the LED lights are much more efficient and will be replaced after 10 years, whereas the existing lights have to be replaced after five years. Of couse, making this change will require a large investment to purchase new LED lights and to pay for the labor of switching out tens of thousands of bulbs. Diane plans to use a 10 year horizon to analyze this proposal, figuring that changes to lighting technology will eventually make this investment obsolete.
Diane's friend and coworker, David has analyzed another energy-saving investment opportunity that involves replacing outdoor lighting with solar-powered fixtures in a few of the company's stores. David also used a 10 year horizon to conduct his analysis. Cash flow forecasts for each project appear below. The company uses a 10% discount rate to analyze capital budgeting proposals.
| Year | LED Project | Solar Project |
|---|---|---|
| 0 | (4,200,000) | (500,000) |
| 1 | 700,000 | 60,000 |
| 2 | 700,000 | 60,000 |
| 3 | 700,000 | 60,000 |
| 4 | 700,000 | 60,000 |
| 5 | 1,000,000 | 60,000 |
| 6 | 700,000 | 60,000 |
| 7 | 700,000 | 60,000 |
| 8 | 700,000 | 60,000 |
| 9 | 700,000 | 60,000 |
| 10 | 700,000 | 60,000 |
A. What is the NPV of each investment? Which investment (if either) should the company underttake?
B. David approaches Diane for a favor. David says the solar lighting project is a pet project of his boss. He suggests to Diane they they roll their two projects into a single proposal. The cash flows for this combined project would simply equal the sum of the two individual projects. Calculate the NOV of the combined project. Does it appear to be worth doing? Would you reccomend investing in the combined project?
C. What is the ethical issue that Diane faces? Is any harm donw if she does the favor for David as he asks?
C. What is the ethical issue that Diane faces? Is any harm done if she does the favor for David as he asks?
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