Question
Ramirez Construction is considering two new investment projects. Project EM calls for the purchase of certain Earthmoving Equipment, while Project HL represents an investment in
Ramirez Construction is considering two new investment projects. Project EM calls for the purchase of certain Earthmoving Equipment, while Project HL represents an investment in a determined number of Hydraulic Lifts. Jorge Ramirez, Financial Director usually uses the Discounted Payback, The Net Present Value (NPV), The Internal Revenue Rate (I.R.R.), and the Modified Internal Revenue Rate (M.I.R.R.) for assessments of new investment projects. He occasionally, uses the Profitability Index when the projects are mutually exclusive. The initial investment and inflow cash patterns for each project are as follows
Year cash flow | project EM | Project HL | Type of Flow |
0 | -3,650,000 | -4,280,000 | Original investment |
1 | 427,000 | 1,110,000 | Inflow |
2 | 515,000 | 1,000,000 | Inflow |
3 | 628,000 | 900,000 | Inflow |
4 | 695,000 | 850,000 | Inflow |
5 | 748,000 | 800,000 | Inflow |
6 | 849,200 | 715,000 | Inflow |
7 | 931,400 | 700,000 | Inflow |
8 | 1,013,600 | 680,000 | Inflow |
9 | 1,095,800 | 520,000 | Inflow |
10 | 1,178,000 | 428,000 | Inflow |
The Weighted Average Cost of Capital of the company is 9.75% (W.A.C.C.) accordingly with the financial structure required to accomplish the investments projects. The company uses a Discounted Payback Period (D.P.P) of 10 years as acceptance criteria for this kind of investment projects.
a) Determine the Discounted Payback Period (D.P.P.) for each investment project. Use the Excel function PV to compute the present value of each flow. Then accumulate the discounted cash flow until they cover the original investment.
b) Determine the Net Present Value of each project for the following discount rates 0.00%, 9.75%, 12.00%, 15.00%, 18.00%, 20.00%. Use the Excel function for NPV.
c) Compute the Internal Rate of Return for each Project using the Excel formula for I.R.R. d) Determine the M.I.R.R. using the corresponding Excel formula. Use the companys weighted average capital cost as the reinvestment rate asked by Excel.
e) Draw a graphic of the Net Present Value for both projects Projects Net Present Value Profiles using all the discount rates assigned in question b. Find the crossover rate. (Fisher crossover rate)
f) If the two projects were not mutually exclusive, what would your acceptance or rejection decision be accordingly with each of the financial tools used to assess the profitability of the companys projects?
g) If the two projects were mutually exclusive, that is, the selection of one precludes the selection of the other, what would be your decision if the cost of capital were 0.00%, 9.75%, 12.00%, 15.00%, 18.00%, 20.00%. Use the net present value profile for your answer. Using excel.
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