Sanchez Corporation is considering three long-term capital investment proposals.
ID: 2490274 • Letter: S
Question
Sanchez Corporation is considering three long-term capital investment proposals. Relevant data on each project are as follows.
Project
Brown
Red
Yellow
Capital investment $188,850 $220,410 $248,370
Annual net income:
Year 1 25,104 20,071 26,239
2 16,344 20,071 24,363
3 13,231 20,071 23,402
4 10,469 20,071 17,424
5 8,169 20,071 20,365
Total $ 73,317 $100,355 $111,793
Salvage value is expected to be zero at the end of each project. Depreciation is computed by the straight-line method. The company’s minimum rate of return is the company’s cost of capital which is 12%.
Compute the annual rate of return for each project. (Round answers to 1 decimal place, e.g. 10.5%.)
Annual rate of return
Project Brown Entry field with correct answer
15.5
%
Project Red Entry field with correct answer
18.2
%
Project Yellow Entry field with correct answer
18.0
%
Compute the cash payback period for each project. (Round answers to 2 decimal place, e.g. 5.25.)
Cash Payback
Project Brown Entry field with incorrect answer
3.43
years
Project Red Entry field with correct answer
3.44
years
Project Yellow Entry field with correct answer
3.38
(c)
Compute the net present value for each project. (Round PV factor to 5 decimal places, e.g. 1.25356 and final answer to 0 decimal places, e.g. 1,255.)
Net present value
Project Brown $
Project Red $
Project Yellow $
Explanation / Answer
CALCULATION OF ARR, CASH PAYBACK AND NPV FOR PROJECT 'BROWN'
_____________________________________________________________________________________________
YEAR 0 1 2 3 4 5 TOTAL
PV FACTOR @12% -- 0.89286 0.79719 0.71178 0.63552 0.56743
CUMULATIVE CASH FLOWS 62,874 116,988 167,989 216,228 262,167
CALCULATION OF ARR, CASH PAYBACK PERIOD AND NPV FOR PROJECT 'RED'
__________________________________________________________________________________________
YEAR 0 1 2 3 4 5 TOTAL
Initial investment $220,410
Net Income -- 20,071 20,-071 20,071 20,071 20,071 100,315
Cash Flows=
Cash flows+
Depreciation 44,082) -- 64,153 64,153 64,153 64,153 64,153 --
PV factor 0.89286 0.79719 0.71178 0.63552 0.56743
ARR = (20,063/110,205) X 100 = 18.2%
CASH PAYBACK PERIOD = 3 YEARS + (220,410 - 192,459)/64,153
= 3YEARS + 27,951/64,153
= 3.44 YEARS
NPV = TOTAL DCF - INITIAL INVESTMENT = 240,258 - 220,410 = $19,848
CALCULATION OF ARR, CASH PAYBACK PERIOD ADN NPV FOR PROJECT 'YELLOW'
______________________________________________________________________________________________
YEAR 0 1 2 3 4 5 TOTAL
Initial investment $248,370
Net income -- 26,239 24,363 23,402 17,424 20,365 111,793
Cash flows=
Net income +
depreciaton 49,674) -- 75,913 74,037 73,076 67,098 70,039 --
PVF @12% 0.89286 0.79719 0.71178 0.63552 0.56743
DCF 67,780 59,022 52,013 42,642 39,742 261,119
Cumulative Cash flows -- 75,913 149,950 223,026 290,124 360,163
ARR = (22,358.6/124,185) X 100 = 18%
CASH PAYBACK PERIOD = 3 YEARS + (248,370 - 223,026)/67098)
= 3 YEARS + 25,344/67,098
= 3.38 YEARS
NPV = TOTAL DCF - INITIAL INVESTMENT = $261,119 - 248,370 = $12,749
ANSWERS OF THREE PROJECTS:
PROJECT 'RED' = 18.2%
PROJECT 'YELLOW' = 18%
CASH PAYBACK PERIOD :
PROJECT BROWN : 3.43 YEARS
PROJECT 'RED' : 3.44 YEARS
PROJECT 'YELLOW' : 3.38 YEARS
NPV OF PROJECTS :
PROJECT 'YELLOW'= $12,749
NOTE: PVF = PRESENT VALUE FACTOR ; DCF = DISCOUNTED CASH FLOWS; NPV = NET PRESENT VALUE; ARR = ACCOUNTING RATE OF RETURN
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