The Matterhorn Corporation is trying to choose between the following two mutuall

Question

The Matterhorn Corporation is trying to choose between the following two mutually exclusive design projects:

If the required return is 11 percent, what is the profitability index for each project? (Do not round intermediate calculations. Round your answers to 3 decimal places (e.g., 32.161).)

If the required return is 11 percent and the company applies the profitability index decision rule, which project should the firm accept?

(Click to select)Project IProject II

If the required return is 11 percent, what is the NPV for each project? (Do not round intermediate calculations. Round your answers to 2 decimal places (e.g., 32.16).)

The Matterhorn Corporation is trying to choose between the following two mutually exclusive design projects:

Explanation / Answer

Probability index = PV of all future cash flows / Initial Investment

Enter the cash flows in an excel and calculate PV as follows

PV of future cash flows is calculated as Summation of (Cash flow / (1+r)n )

Project 1 = 21621.62 + 23537.05 + 26323.89 = 71,481.56

Project 2 = 7207.21 + 11768.53 + 9359.25 = 28334.98

So probability index

Project 1 = 71,481.56 / 65000 = 1.100

Project 2 = 28334.98 / 24000 = 1.181

Since Project has highest probability index, we will choose project 2 according to the probability rule

NPV:

NPV = PV of future cash flows - Initial investment

Project 1 = 71,481.56 - 65000 = $6,481.56

Project 2 = 28334.98 - 24000 = $4,334.98

Since NPV of project 1 is higher, we will choose project 1 according to the NPV rule.

Year Cash flow Cash flow 0             (65,000)                    (24,000) 1               24,000                        8,000 2               29,000                      14,500 3               36,000                      12,800

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