Suppose your firm is considering two mutually exclusive, required projects with

Question

Suppose your firm is considering two mutually exclusive, required projects with the cash flows shown below. The required rate of return on projects of both of their risk class is 12 percent, and that the maximum alowable payback and discounted payback statistic for the projects are 2 and 3 years, respectively. Project A Cash Rlow Project B Cash Flow 24,00014,000 34,000 5000 4,0004,000 24,000 54,000 Use the Pl decision rule to evaluate these projects; which onejs) should be accepted or rejected? O accept neither A nor 8 O reject A, accept B O accept both A and B O accept A, reject B

Explanation / Answer

Present value of inflows=cash inflow*Present value of discounting factor(rate%,time period)

A:

Present value of inflows=14000/1.12+34000/1.12^2+5000/1.12^3

=$43163.49

PI=Present value of inflows/Present value of outflows

=43163.49/24000=1.798

B:

Present value of inflows=14000/1.12+24000/1.12^2+54000/1.12^3

=$70068.786

PI =$70068.786/$34000=2.061

Hence since projects are mutually exclusive;B must be accepted only having higher PI.

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