The cash flows for two investment projects are as given in the table below. Clic

Question

The cash flows for two investment projects are as given in the table below. Click the icon to view the interest factors for discrete compounding when i = 12% per year. Click the icon to view the interest factors for discrete compounding when i = 15% per year. For project A. find the value of X that makes the equivalent annual receipts equal the equivalent annual disbursement at i = 15%. (Round to the nearest dollar.) For A to be preferred over project B. determine the minimum acceptable value of X in year 2 at i = 12% based on an AE criterion. The minimum acceptable value of X is $ 16. (Round up to the nearest dollar.)

Explanation / Answer

Project A would be acceptable on AE basis, if X is at least $5656

a) 4500 = 1000*0.8696 + X*0.7561 + 1000*0.6575+1000*0.5718 = 4500-869.6-657.5-571.8 = 0.7561X X = 2401.1/0.7561 = 3175.64 = 3176 b) As the projects have equal lives, The AEs will be equal if the NPVs are equal. ie: 6500-1400*PVIFA(12,4) = -4500+1000*0.8929+X*0.7972+1000*0.7118+1000*0.6355 6500-3.0373*1400 = -4500+892.9+711.8+635.5+X*0.7972 4507.58 = 0.7972X X=5654.26 So 'X' should be atleast $5,656 at 5655, the NPVs would be equal, as shown below

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