The directors of Gear plc need to appraise two capital investment projects (X and Y) and decide which one they need to invest their money in. Both projects have estimated life of five years and require 2,000,000 as an initial expenditure however, project Y requires an additional 130,000 as a working capital to support the investment.

At the end of five years, it is expected that the residual value of project X will be 130,000 and 200,000 for project Y.

The following is the best cash forecasts for net cash flows over the 5 years:

Year	Project X	Project Y
1	685,000	530,000
2	765,000	558,000
3	831,000	598,000
4	552,000	670,000
5	135,000	900,000

Year Project X Project Y

1 685,000 530,000

2 765,000 558,000

3 831,000 598,000

4 552,000 670,000

5 135,000 900,000

- Present value rate at 13%

Year 1 2 3 4 5

Rate 0.885 0.783 0.693 0.613 0.543

Required

a) Evaluate the two projects using the following two methods:

i) Payback period.

(4 marks)

ii) Net present value using 13% as a discount rate.

(7 marks)

b) You need to comment on your answer in 1 and recommend which project should be undertaken. The discussion should include a debate on the main advantages and disadvantages of the two methods.