Question
The directors of Organic restaurants are currently considering two mutually exclusive investment projects. Both projects are concerned with the purchase of a new restaurant equipment.
The directors of Organic restaurants are currently considering two mutually exclusive investment projects. Both projects are concerned with the purchase of a new restaurant equipment.
The following data is available for each project:
| Project 1 $75,000 | ||
| Cost (immediate outlay) | ||
| Expected EBT | Expected Cashflow | |
| Year 1 | $40,471 | $35,000 |
| Year 2 | $52,494 | $40,000 |
| Year 3 | $44,506 | $32,000 |
| Year 4 | $64,476 | $48,000 |
| Year 5 | $58,200 | $50,000 |
Additional Information:
Estimated residual value as a percentage on investment is 3%
Tax rate is 32%
| Project 2 $85,500 | ||
| Cost (immediate outlay) | ||
| Expected EBT | Expected Cashflow | |
| Year 1 | $21,682 | $15,000 |
| Year 2 | $30,812 | $22,000 |
| Year 3 | $50,212 | $38,000 |
| Year 4 | $53,635 | $40,000 |
| Year 5 | $49,071 | $35,000 |
| Year 6 | $35,376 | $22,000 |
Additional Information:
Estimated residual value as a percentage on investment is 6%
Tax rate is 32%
The company is currently earning a return of capital employed of 18% and the directors need these investments to earn a similar return. The company has sufficient funds to meet the capital expenditure requirements.
YOUR TASK:
1. Calculate for each project the following:
(a) The net present value (NPV) of the project.
(b) The accounting rate of return (ARR) for each project.
(c) The payback period of each project.
2. State which, if any of the two investment projects the directors should accept.
PRESENT VALUE OF $ 1
PROJECT 1 ANSWERS
Accounting Rate of Return = % . Show answer with 2dp (decimal point) accuracy. No need to show method of calculation
Payback = years and month. No need to show method of calculation
Net Present Value - Show calculation and answer - use the answer grid below
| CASHFLOW 0 dp's | DISCOUNT FACTOR Show with 3dp accuracy | NPV 0 dp's | |
| Year 0 | $ | ||
| Year 1 | $ |
| $ |
| Year 2 | $ |
| $ |
| Year 3 | $ |
| $ |
| Year 4 | $ |
| $ |
| Year 5 | $ |
| $ |
| Residual value | $ |
| $ |
| NPV | $ |
PROJECT 2 ANSWERS
Accounting Rate of Return = % . Show answer with 2dp (decimal point) accuracy. No need to show method of calculation
Payback = years and month. No need to show method of calculation
Net Present Value - Show calculation and answer - use the answer grid below
| CASHFLOW 0 dp's | DISCOUNT FACTOR Show with 3dp accuracy | NPV 0 dp's | |
| Year 0 | $ | ||
| Year 1 | $ |
| $ |
| Year 2 | $ |
| $ |
| Year 3 | $ |
| $ |
| Year 4 | $ |
| $ |
| Year 5 | $ |
| $ |
| Year 6 | $ |
| $ |
| Residual value | $ |
| $ |
| NPV | $ |
FINAL QUESTION
State which, if any of the two investment projects the directors should accept. Project 1 or 2?
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Cost Of Capital In Managerial Finance
Authors: Dennis Schlegel
2015th Edition
3319151347, 978-3319151342
