Question
Galaxy Satellite Co. is attempting to select the best group of independent projects competing for the firm's fixed capital budget of $10,000,000. Any unused portion
Galaxy Satellite Co. is attempting to select the best group of independent projects competing for the firm's fixed capital budget of $10,000,000. Any unused portion of this budget will earn less than its 20 percent cost of capital. A summary of key data about the proposed projects follows.
Project | PV of Inflows | Initial Investment | IRR | |
A | $3,050,000 | $3,000,000 | 21% | |
B | $9,320,000 | $9,000,000 | 25% | |
C | $1,060,000 | $1,000,000 | 24% | |
D | $7,350,000 | $7,000,000 | 23% |
My Answer: With the NPV approach, the best projects Galaxy Satellite Co. should pick are projects C and D. Combining the two projects gives the company the highest NPV and the investment is only $8,000,000.
With the IRR approach, the best projects Galaxy Satellite Co. should pick are projects B and C. The NPV is $380,000 and the initial investment is only $10,000,000.
The question I need help with is: Which projects should the firm implement based on your analysis of both techniques and given the capital rationing amount? Write an email to your boss, Andy Fast, the CFO, explaining your rationale proving the choices based on the considerations of shareholder value and the maximum investment budget. Keep in mind that you are less concerned with using the whole budget than with maximizing the total return to Galaxy satellite.
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