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ID: 2404489 • Letter: L
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(a)
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(b)
Compute the net present value for each project
c.Compute the annual rate of return for each project
d.Rank the projects on each of the foregoing bases. Which project do you recommend?
Henkel Company is considering three long-term capital investment proposals. Each investment has a useful life of 5 years. Relevant data on each project are as follows.Project Kilo Project Lima Project Oscar Capital investment $167,400 $178,200 $200,850 Annual net income: Year 1 14,040 18,900 29,700 2 14,040 17,820 24,300 3 14,040 16,740 23,220 4 14,040 12,420 14,580 5 14,040 9,180 13,500 Total $70,200 $75,060 $105,300
Depreciation is computed by the straight-line method with no salvage value. The company’s cost of capital is 15%. (Assume that cash flows occur evenly throughout the year.) (Refer the below table)
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Explanation / Answer
a) Project Kilo
Depreciation per year = Capital investment/Useful life
= $167,400/5 yrs = $33,480
Annual Net Income = $14,040
Annual Cash Inflows = Annual Net Income+Annual Depreciation
= $14,040+$33,480 = $47,520
Cash Payback Period = Capital Investment/Annual Cash Inflows
= $167,400/$47,520 = 3.52 years
Project Lima
Depreciation per year = Capital investment/Useful life
= $178,200/5 yrs = $35,640
Calculation of cash inflows for each year (Amounts in $)
Cash Payback Period = 3 years + [($178,200-$160,380)/$48,060]
= 3 yrs + (17,820/48,060) yrs
= 3 yrs + 0.37 yrs = 3.37 years
Project Oscar
Depreciation per year = Capital investment/Useful life
= $200,850/5 yrs = $40,170
Calculation of cash inflows for each year (Amounts in $)
Cash Payback Period = 3 yrs + [($200,850-$197,730)/$54,750] yrs
= 3 yrs + (3,120/54,750) yrs
= 3 yrs + 0.06 yrs = 3.06 years
b) Project Kilo
PV of cash inflows = Annual cash inflows*PVAF(15%, 5 yrs)
= $47,520*3.35216 = $159,295
Net Present Value = PV of cash inflows - Capital Investment
= $159,295 - $167,400 = ($8,105)
Project Lima
Calculation of PV of cash inflows (Amounts in $)
Net Present Value = PV of Cash Inflows - Capital Investment
= $172,052.41 - $178,200 = ($6,147.59)
Project Oscar
Calculation of PV of cash inflows (Amounts in $)
Net Present Value = PV of Cash Inflows - Capital Investment
= $209,172.36 - $200,850 = $8,322.36
c) Project Kilo
Average Annual net income = Total Income of 5 years/5 years
= $70,200/5 yrs = $14,040
Annual rate of return = Avg annual net income/Capital investment
= $14,040/$167,400 = 8.39%
Project Lima
Average Annual net income = Total Income of 5 years/5 years
= $75,060/5 yrs = $15,012
Annual rate of return = Avg annual net income/Capital investment
= $15,012/$178,200 = 8.42%
Project Oscar
Average Annual net income = Total Income of 5 years/5 years
= $105,300/5 yrs = $21,060
Annual rate of return = Avg annual net income/Capital investment
= $21,060/$200,850 = 10.49%
d) Ranking of Projects
Therefore Project Oscar should be selected on the basis of all the three criterias.
Year Annual Net Income (A) Annual Depreciation (B) Annual Cash Inflows (A+B) Accumulated Cash Inflows 1 18,900 35,640 54,540 54,540 2 17,820 35,640 53,460 108,000 3 16,740 35,640 52,380 160,380 4 12,420 35,640 48,060 208,440 5 9,180 35,640 44,820 253,260Related Questions
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