Daryl Kearns saved $240,000 during the 30 years that he worked for a major corpo
ID: 2575684 • Letter: D
Question
Daryl Kearns saved $240,000 during the 30 years that he worked for a major corporation. Now he has retired at the age of 60 and has begun to draw a comfortable pension check every month. He wants to ensure the financial security of his retirement by investing his savings wisely and is currently considering two investment opportunities. Both investments require an initial payment of $160,000. The following table presents the estimated cash inflows for the two alternatives Opportunity #1 Opportunity #2 Year 1 $44,000 81,600 Year 2 $47,200 86,400 Year 3 $63,200 16,000 Year 4 $80,000 16,000 Mr. Kearns decides to use his past average return on mutual fund investments as the discount rate; it is 8 percent. (PV of $1 and PVA of $1) (Use appropriate factor(s) from the tables provided.) Required a. Compute the net present value of each opportunity. Which should Mr. Kearns adopt based on the net present value approach? b. Compute the payback period for each opportunity. Which should Mr. Kearns adopt based on the payback approach? Complete this question by entering your answers in the tabs below Required A Required B Compute the net present value of each opportunity. Which should Mr. Kearns adopt based on the net present value approach? (Round your intermediate calculations and final answer to two decimal places.) Net Present Value Opportunity 1 Opportunity 2 Which opportunity should be chosen?Explanation / Answer
a. Net Present Value Opportunity # 1 $ 30,179.72 Opportunity # 2 $ 14,091.42 Opporutiny # 1 is beneficial due to higher Net Present Value b. Payback Period Opportunity # 1 3.07 Years Opportunity # 2 1.91 Years Opportunity # 2 is benficial due to lesser time taken to recover initial cash investment. Working: Opportunity #1: Year Cash flow cumulative cash flow Discount factor Present Value a b c d=1.08^-a b*d 0 $ -1,60,000.00 $ -1,60,000.00 1.000 $ -1,60,000.00 1 $ 44,000.00 $ -1,16,000.00 0.926 $ 40,740.74 2 $ 47,200.00 $ -68,800.00 0.857 $ 40,466.39 3 $ 63,200.00 $ -5,600.00 0.794 $ 50,170.20 4 $ 80,000.00 $ 74,400.00 0.735 $ 58,802.39 Total $ 30,179.72 Payback Period is the time upto which intial cash investment is recovered back. Payback Periiod = 3+(5600/80000) = 3.07 Years Opportunity #2: Year Cash flow cumulative cash flow Discount factor Present Value a b c d=1.08^-a b*d 0 $ -1,60,000.00 $ -1,60,000.00 1.000 $ -1,60,000.00 1 $ 81,600.00 $ -78,400.00 0.926 $ 75,555.56 2 $ 86,400.00 $ 8,000.00 0.857 $ 74,074.07 3 $ 16,000.00 $ 24,000.00 0.794 $ 12,701.32 4 $ 16,000.00 $ 40,000.00 0.735 $ 11,760.48 Total $ 14,091.42 Payback Periiod = 1+(78400/86400) = 1.91 Years
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