A firm has the following investment alternatives: Cash Inflows YEAR A B C 1 $1,1

Question

A firm has the following investment alternatives:

                                         Cash Inflows

YEAR                 A                               B                           C

1                     $1,100                      $3,600                      ___

2                     $1,100                      ____                         ___                

3                     $1,100                      ____                      $4,562

Each investment costs $3,000; investments B and C are mutually exclusive, and the firm's cost of capital is 8%.

A.) What is the net present value of each investment/

B.) According to the net present values, which investment(s) should the firm make? Why?

C.) What is the internal rate of return on each investment?

D.) According to the internal rates of return, which investment(s) should the firm make? Why?

E.) According to both the net present values and internal rates of return , which investments should the firm make?

F.) If the firm could reinvest the $3,600 earned in year 1 from investment B at 10% , what effect would the information have on your answer to part E? would the answer be different if the rate were 14%?

G.) If the firm's cost of capital had been 10%, what would be investment A's internal rate of return?

H.) The payback method of capital budgeting selects which investment? Why?

I know there is A LOT in this question and appreciate any help I can get. Please be detailed and show ALL work. Thank you so much:-)

Explanation / Answer

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Year A B C 0 (3,000.00) (3,000.00) (3,000.00) 1 1,100.00    3,600.00              -   2 1,100.00              -                -   3 1,100.00              -      4,562.00 NPV     (165.19)       333.33       621.46 IRR 4.92% 20.00% 14.99% a     (165.19)       333.33       621.46 b Investment C is the better option based on NPV. c 4.92% 20.00% 14.99% d Investment B is the better option based on IRR. e Based on both NPV and IRR, I believe Investment C is the better option. Year A B C 0 (3,000.00) (3,000.00) (3,000.00) 1 1,100.00    3,600.00              -   2 1,100.00              -                -   3 1,100.00              -      4,562.00 NPV     (165.19)       272.73       621.46 IRR 4.92% 20.00% 14.99% PP         1.27          0.17          3.34 f The answer will remain the same even if the rate became 10% or 14% g Based on payback method, option B is the better option.

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