General Motors (or Toyota) is thinking of investing in new production equipment,
ID: 2462062 • Letter: G
Question
General Motors (or Toyota) is thinking of investing in new production equipment, which will cost $200 million in year zero, and will generate cost savings of $120 million in year 1, $80 million in year 2, and $60 million in year 3. After 3 years, the salvage value is zero. The cost of capital (discount rate) is 25% for General Motors and 10% for Toyota. (Due to GM's recent bankruptcy, investors are scared to lend it money, so GM has to pay much higher interest rates to attract capital).
Required:
a) What's the NPV of this project for General Motors?
NPV = $ million (If you get say $3.52 million, enter 3.52 not 3,520,000. If you get a negative number, enter it with a minus sign, i.e., -3.52 not (3.52))
Should GM invest, based on NPV? (1=yes, 2=no)
b) What's the NPV of this project for Toyota?
NPV = $ million
Should Toyota invest, based on NPV? (1=yes, 2=no)
c) If you computed (a) and (b) correctly, the decisions for GM and Toyota should be different. Briefly explain why they are different.
Explanation / Answer
Answer a
Year
GM
Dis factor @25%
Discounted cashflows
0
-200
1
-200
1
120
0.800
96
2
80
0.640
51.2
3
60
0.512
30.72
NPV
-22.08
Decision
Do not invest
Answer b
Answer C
Year
GM
Dis factor @25%
Discounted cashflows
0
-200
1
-200
1
120
0.800
96
2
80
0.640
51.2
3
60
0.512
30.72
NPV
-22.08
Decision
Do not invest
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