Question
Fred Mercury is evaluating two projects for investment Project King and Project Queen. Project King requires an initial investment of $27 million and project Queen
- Fred Mercury is evaluating two projects for investment Project King and Project Queen. Project King requires an initial investment of $27 million and project Queen requires an initial investment of $145 million. The cash flows associated with each project are shown in the table below.
Expected Cash Flows | ||
Year | Project King | Project Queen |
0 | ($27,000,000) | ($145,000,000) |
1 | $10,000,000 | $30,000,000 |
2 | $7,000,000 | $45,000,000 |
3 | $7,000,000 | $55,000,000 |
4 | $5,000,000 | $65,000,000 |
5 | $4,000,000 | $70,000,000 |
6 | $3,000,000 | $75,000,000 |
Fred would like to use either payback period or NPV to make his capital budgeting decision. He has an acceptable payback period of 4 years, and he will use a 12.00% discount rate to evaluate these projects. The projects are not mutually exclusive, and Fred will accept all projects that benefit shareholders.
- Define payback period and establish the decision rule for Fred.
b. Calculate payback period for each of the projects (note, you do NOT need to calculate discounted payback for this problem). Keep 2 decimal places 0.00.
- Which projects are acceptable under payback period?
- Define net present value and establish the decision rule for Fre
- Calculate net present value for both projects.
- Which projects are acceptable under NPV?
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