question archive A choice must be made between two projects, A and B

A choice must be made between two projects, A and B

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A choice must be made between two projects, A and B. The following information is provided on each project:

 

Year

Project A

Project B

(i)         Initial investment

(ii)        Annual net cash inflows:

1

2

3

4

5

             R22 000

             R10 000

               R8 000

               R6 000

               R4 000

               R3 000

                  R22 000

                     R3 000

                     R4 000

                     R6 000

                     R8 000

                  R10 000
   

             R31 000

                  R31 000

(iii)       The current cost of capital is 15%

Future-value Factors

Period (n)

5%

10%

15%

1

1.0500

1.1000

1.1500

2

1.1025

1.2100

1.3225

3

1.1576

1.3310

1.5209

4

1.2155

1.4641

1.7490

5

1.2763

1.6105

2.0114

     Discounting Factors

Period (n)

5%

10%

15%

1

0.9524

0.9091

0.8696

2

0.9070

0.8264

0.7561

3

0.8638

0.7513

0.6575

4

0.8227

0.6830

0.5718

5

0.7835

0.6209

0.4972

The Total net cash flow for Project A is?

 

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First, we will calculate the Present value of all cash inflows

  Project A PVIF at 15% PV Project B PV using discount factor of 15%
cash inflow          
Year 1 10,000 0.8696 8,696 3,000 2,608.80
Y 2 8,000 0.7561 6,048.80 4,000 3,024.40
Y 3 6,000 0.6575 3,945 6,000 3,945
Y 4 4,000 0.5718 2,287.20 8,000 4,574.40
Y 5 3,000 0.4972 1,491.60 10,000 4,972
Total PV     22,468.60   19,124.60
Cash outflow 22,000     22,000  
NPV of project     2,468.60   - 2,875.40

The project A has positive net cash inflows of 2,468.60 and project B has negative NPV of cash flows

,hence, Project A should be selected

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