Project X and Y are mutually exclusive projects that are expected to generate the
following cash flows. The cost of capital is 14%.
Year Project X Project Y
0 -5 200 000 -8 000 000
1 2 800 000 2 500 000
2 2 800 000 2 500 000
3 2 800 000 2 500 000
4 2 500 000
5 2 500 000
6 2 500 000
After further evaluations, the marketing department has now established that
Project X’s product life is 6years. It has also been established that the company may
invest in either Project X or Project Y. If it decides to invest in project X it will be
necessary to reinvest in new equipment at the end of the 3rd year at a cost of $5 200
00.
The company’s finance manager has advised that the company invests in project Y because
its cash flows are less risky. This decision has been met with resistance by other company
managers.
3.1 Determine which project is preferable using the Net Present Value. (15)
3.2 Provide reasons for the finance managers comments on project Y.