Fundamentals of Finance: chapter 10: Capital budgeting exercise

EDCorp is considering three projects for investment next year. The details of EDCorps requirements and the projects are provided below. For each project, calculate the

Payback Period,

Discounted Payback Period,

Net Present Value,

Profitability Index,

Internal Rate of Return.

Additional information:

* EDCorp will ration capital expenditures to a maximum of $1 million next year.

* EDCorp will use its WACC of 8.00% as the discount rate for all projects for next year.

* Projects II and III are mutually exclusive AND if either is accepted, it will have priority over any other project being considered.

* The Initial Investment for each proposal is at Time 0.

* The cash flows are estimated to occur at the end of each year/period stated.

* No cash flows beyond year 5 are considered because the Board of Directors considers cash flow projections beyond 5 years to be too unreliable.

* For any project to be acceptable, it must meet the following criteria:

Payback Period must be < 4.50 years AND

Discounted Payback Period must be < 5 years AND

NPV must be > 0 AND

PI must be > 1.0 AND

IRR must be > 8.00%

Enter your findings in the table at the bottom of the exercise and answer the related questions.

Project I: Cost (Initial Investment) = $ 400,000

Projected Cash Flows = 1 $ 80,000

2 90,000

3 100,000

4 125,000

5 150,000

Project II : Cost (Initial Investment) = $500,000

Projected Cash flows = 1 $ 90,000

2 110,000

3 130,000

4 150,000

5 150,000

Project III : Cost (Initial Investment) = $700,000

Projected Cash flows = 1 $220,000

2 220,000

3 220,000

4 220,000

5 220,000

EDCorp Capital Budgeting decision information:

	Project I	Project II	Project III
Payback
Discounted Payback
Net Present Value
Profitability Index
Internal Rate of Return
Accept / Reject

I. Why should EDCorp accept/reject Project I?

II. Why should EDCorp accept/reject Project II?

III. Why should EDCorp accept/reject Project III?