Fall 2017-18 Final Examination SECTION C (20 marks) Ques. 4 Synergy Industries i

Question

Fall 2017-18 Final Examination SECTION C (20 marks) Ques. 4 Synergy Industries is expanding its product line and its production capacity. The costs and expected cash flows of the two independent projects are given in the 4 marks) 4 marks) following table. The firm typically uses a discount rate of 16.4 percent. Calculate the NPV of both the projects. Should both projects be accepted? Or either? Or neither? Explain your reasoning. a. b. Product Line Expansion S(2,575,000) $600,000 $875,000 $875,000 S875,000 $875,000 Production Capacity Expansion $(8,137,250) S2,500,000 $2,500,000 $2,500,000 S3,250,000 $3,250,000 Year 4

Explanation / Answer

a.

b. Yes, both the projects should be accepted as both have a NPV of more than 1. Under capital budgeting, projects with a positive NPV are accepted becuase the present value of cash inflows are more than outflows, thus generating profits for the company.

Cash flows Discount rate Present value Year Product line Expansion Production capacity expansion Product line Expansion Production capacity expansion 0 -$25,75,000 -$81,37,250 $1 -$25,75,000.0 -$81,37,250.0 1 $6,00,000 $25,00,000 $0.859 $5,15,463.9 $21,47,766.3 2 $8,75,000 $25,00,000 $0.738 $6,45,806.0 $18,45,160.1 3 $8,75,000 $25,00,000 $0.634 $5,54,816.2 $15,85,189.1 4 $8,75,000 $32,50,000 $0.545 $4,76,646.2 $17,70,400.2 5 $8,75,000 $32,50,000 $0.468 $4,09,489.9 $15,20,962.3 NPV $27,222.2 $7,32,228.0

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