Question
Rubber and Duck Limited is an international producer of fine luxury bags. The company is based in the country of Quack on the continent of
Rubber and Duck Limited is an international producer of fine luxury bags. The company is based in the country of Quack on the continent of Bills.
The company is approaching the end of its financial year, and the board of directors are seeking to decide on the capital budget for the forthcoming year, and the capital expenditure items the company may invest into.
The chief financial officer (CFO) has presented the board with the following list of four major capital expenditure projects for consideration with the initial outlay and projected annual after-tax cash flows for each project.
Project B | Project V | Project R | Project E | |
Initial Outlay | $71,000.00 | $56,000.00 | $48,000.00 | $104,000.00 |
Life of Project | 3 Years | 4 Years | 3 Years | 5 Years |
Annual After-Tax Cash Flow | ||||
Year 1 | $35,000.00 | $18,000.00 | $39,000.00 | $46,000.00 |
Year 2 | $41,000.00 | $29,000.00 | $12,000.00 | $26,000.00 |
Year 3 | $11,000.00 | $15,000.00 | $25,000.00 | $25,000.00 |
Year 4 | $38,000.00 | $29,000.00 | ||
Year 5 | $27,000.00 |
The cost of capital is 7.50%.
Required:
(1) Calculate the discounted payback period for Project V. The company requires a minimum accounting payback period of 2.90 years. Would Project V be accepted (ignore all other projects)?
(2) Calculate the profitability index value for Project B. Would Project B be accepted (ignore all other projects)?
(3) Assume that the company has a capital budget of $118,000 for the forthcoming year. Also, assume that the company can only select from Project B and Project R; ignore the other projects. Project B and Project R are independent of each other. Calculate the NPV of each and select the project (or projects) the company should select. Justify your answer.
(4) Assume company wish to select between Project R and Project E. Both projects are mutually exclusive. Based on appropriate calculation techniques, which project would be selected. Show all calculations.
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