1. \"Consider the following cash flows for projects A and B. Assume the firm can

Question

1. "Consider the following cash flows for projects A and B. Assume the firm can only select one of the projects. What is the MARR such that the firm is indifferent between selecting project A or B? Enter your answer as a percent between 0 and 100, rounded to the nearest tenth of a percent. You might consider an incremental approach. Project A (for n = 0 through 4) $ : -11,000 8,400 6,485 1,750 740 IRR : 32.7% Project B (for n = 0 through 4) $ : -5,080 3,723 3,243 1,750 740 IRR : 41.1%"

2.

"The initial investment for a project is $134,000. The project will last for 4 years and can be salvaged for $20,100 at the end of 4 years. The annual expenses for the project are $7,200 in year 1 and increase at an annual rate of 9% in each year of the project. Assume the annual revenue remains the same in each of the 4 years. What does the annual revenue need to be in order for the internal rate of return of the project to equal 15.3%? "

Explanation / Answer

1

Incremental (A-B) Cash Flows

Year 0: -11000-(-5080)=-5920

Year 1: 8400-3723=4677

Year 2: 6485-3243=3242

Year 3: 1750-1750=0

Year 4: 740-740=0

Hence, NPV=-5920+4677/(1+r)+3242/(1+r)^2+0+0

IRR is zero at 23.38% so if MARR=23.38% then incremental's NPV is zero and one would be indifferent between A & B

2

let annual revenues be x

Cash flows

year 0: -134000

year 1: x-7200

year 2: x-7200*1.09

year 3: x-7200*1.09^2

year 4: x-7200*1.09^3+20100

So, NPV=-134000+(x-7200)/(1+r)+(x-7200*1.09)/(1+r)^2+(x-7200*1.09^2)/(1+r)^3+(x-7200*1.09^3+20100)/(1+r)^4

At IRR, NPV=0

So, -134000+(x-7200)/(1+15.3%)+(x-7200*1.09)/(1+15.3%)^2+(x-7200*1.09^2)/(1+15.3%)^3+(x-7200*1.09^3+20100)/(1+15.3%)^4=0

hence, x=51319.56

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