CHAPTER 25 Capital Investment Analysis
Prob. 25–4B (FIN MAN); Prob. 10–4B (MAN)
1. a. After Hours:
Annual net cash flow (at the end of each of 4 years)…………………
…
$ 320,000
Sun Fun:
Annual net cash flow (at the end of each of 4 years)…………………
…
$ 290,000
…
b. Internal rate of return (determined from Exhibit 2 for 4 years in text)
2. Present Value Factor for an Annuity of $1 Amount to Be Invested
Annual Net Cash Flow
a. =
b.
Present Value Inde
x
=
Total Present Value of Net Cash Flow
Amount to Be Invested
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…
…
CHAPTER 25 Capital Investment Analysis
Prob. 25–4B (FIN MAN); Prob. 10–4B (MAN) (Concluded)
3. The net present value, present value index, and internal rate of return all
indicate that After Hours is a better financial opportunity compared to
Sun Fun, although both investments meet the minimum return criterion of
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CHAPTER 25 Capital Investment Analysis
Prob. 25–5B (FIN MAN); Prob. 10–5B (MAN)
1. Net present value analysis:
Witchita:
Annual net cash flow (at the end of each of 6 years)…………………………
…
$ 310,000
Topeka:
Annual net cash flow (at the end of each of 4 years)…………………………
…
$ 400,000
…
2. Net present value analysis:
Witchita Topeka Witchita
1 $ 310,000 $ 400,000 $ 258,230 $ 333,200
2 310,000 400,000 215,140 277,600
3. To: Investment Committee
Both Witchita and Topeka have a positive net present value. This means
that both projects meet our minimum expected return of 20% and would be
Net Cash FlowNet Cash Flow
Present Value of
$1 at 20%
Value of
Present
TopekaYear
0.833
0.694
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…
…
CHAPTER 25 Capital Investment Analysis
Prob. 25–6B (FIN MAN); Prob. 10–6B (MAN)
1. Proposal A: 4-year cash payback period, as follows:
Net Cash Cumulative
Year Flow Net Cash Flows
1 $120,000 $120,000
Proposal B: 2-year, 4-month cash payback period, as follows:
Net Cash Cumulative
Year Flow Net Cash Flows
1 $100,000 $100,000
Proposal C: 3-year, 6-month cash payback period, as follows:
Net Cash Cumulative
Year Flow Net Cash Flows
1 $100,000 $100,000
Proposal D: 3-year payback period, as follows:
Net Cash Cumulative
Year Flow Net Cash Flows
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CHAPTER 25 Capital Investment Analysis
Prob. 25–6B (FIN MAN); Prob. 10–6B (MAN) (Continued)
2. Proposal A: 5.3% average rate of return, determined as follows:
Proposal B: 18.0% average rate of return, determined as follows:
Proposal C: 15.0% average rate of return, determined as follows:
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CHAPTER 25 Capital Investment Analysis
Prob. 25–6B (FIN MAN); Prob. 10–6B (MAN) (Continued)
3. Of the four proposed investments, only Proposals B and D meet the company’s
requirements, as the following table indicates:
Cash Payback Average Rate Accept for
Proposal Period of Return Further Analysis Reject
A 4 yrs. 5.3% X
4.
Present Value Net Cash Present Value of
Year of $1 at 12% Flow Net Cash Flow
1 0.893 $100,000 $ 89,300
Present Value Net Cash Present Value of
Year of $1 at 12% Flow Net Cash Flow
1 0.893 $200,000 $178,600
Proposal B
Proposal D
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CHAPTER 25 Capital Investment Analysis
Prob. 25–6B (FIN MAN); Prob. 10–6B (MAN) (Concluded)
*Rounded
6. Based on the net present value, the proposals should be ranked as follows:
7. Based on the present value index (the amount of present value per dollar
invested), the proposals should be ranked as follows:
8. The present value indexes indicate that although Proposal D has the larger
net present value, it is not as attractive as Proposal B in terms of the amount
5.
Present Value Index =
Total Present Value of Net Cash Flow
Amount to Be Invested
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CHAPTER 25 Capital Investment Analysis
CP 25–1 (FIN MAN); CP 10–1 (MAN)
The plant manager wants a project to become accepted and places pressure on the
analyst to come up with the “right numbers.” Jerrod is right when he states that the net
present value analysis has many assumptions and room for interpretation. Many use
this room for interpretation to work the numbers until they satisfy the minimum return
(hurdle) rate. In fact, some analysts state that they start with the hurdle rate and work
back into the numbers. Clearly, this is not what should be expected of Danielle.
CASES & PROJECTS
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CHAPTER 25 Capital Investment Analysis
CP 25–2 (FIN MAN); CP 10–2 (MAN)
1. Annual salary…………………………………………………………………………
…
$ 50,000
2. Annual tuition at the beginning of the graduate year…………………………
…
$ (12,000)
Annual salary…………………………………………………………………………
…
$ 66,000
…
…
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CHAPTER 25 Capital Investment Analysis
CP 25–3 (FIN MAN); CP 10–3 (MAN)
a. Since all the net cash flows are incurred in the local economy under this
assumption, it is likely that the internal rate of return of the new plant will
decline. This is because the cash profits earned on the plant will be less in
b. If the plant produced for export only, then the expenses would be incurred in
local currency, while the revenues would be earned in U.S. dollars. This could
CP 25–4 (FIN MAN); CP 10–4 (MAN)
In all three companies, the executives indicate that financial investment analysis
plays a minor role in the selection of projects. The reason is that all three companies
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CHAPTER 25 Capital Investment Analysis
CP 25–5 (FIN MAN); CP 10–5 (MAN)
a. All cash flows assumed to occur at the end of the year. All amounts are
2014 cash flow:in millions
Gross ticket sales……………………………………………………………
…
$ 420
Net
p
resent value:
Present Value Net Cash Present Value of
Year of $1 at 20% Flow Net Cash Flow
2014 0.833 $(10) $ (8)
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CP 25–6 (FIN MAN); CP 10–6 (MAN)
This activity could be assigned individually or in groups. This activity has the
student(s) perform a capital investment analysis for a desktop computer, using
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