2) Consider a three-year project with the following costs and benefits: First co
ID: 2797450 • Letter: 2
Question
2) Consider a three-year project with the following costs and benefits:
First cost = $5 million
Annual cost = $500,000 per year
Benefit = $2 million per year
(a) Using a spreadsheet, determine the present worth of the annual costs and benefits at a discount rate of 5% per year, and compute the benefit/cost ratio.
(b) Now do the following sensitivity analysis. Compute the benefit/cost ratio of the above project for all possible combinations of discount rate and annual cost, if the discount rate can be either 3% or 5% per year, and the annual cost can be $500,000, $700,000, or $1 million. Display your results in a table.
(c) What do the results of part b say about the desirability of this project?
(d) At a discount rate of 5% per year, if all three estimates of annual cost are equally likely, what is the expected benefit/cost ratio?
Explanation / Answer
(a) Initial Cost (First Cost) = $5,000,000
Project is not feasible
(b)
Discount Rate 3% and annual cost 500,000
One is solved, rest results are shown in table below:
(c) It is undesirable to take project since it has Cost Benefit Ratio less than 1 in all the senerios.
(d) If all scenerios have equal likelyhood, Annual cost = (500,000+700,000+1,000,000)/3 = 733,333
year Disc. Factor @ 5% p.a. cost Present Value of Cost Benefit Present Value of Benefit 0 1.0000 5,000,000.00 5,000,000.00 - - 1 0.9524 500,000.00 476,190.48 2,000,000.00 1,904,761.90 2 0.9070 500,000.00 453,514.74 2,000,000.00 1,814,058.96 3 0.8638 500,000.00 431,918.80 2,000,000.00 1,727,675.20 Total 6,361,624.01 5,446,496.06 Benefit to Cost Ratio 0.86Related Questions
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