CHAPTER 26 Capital Investment Analysis
Prob. 26-2A
1. a. Cash payback period for both projects: 2 years (the year in which accumulated
net cash flows equal $900,000), shown as follows:
Net Cash Cumulative Net Cash Cumulative
Year Flow Net Cash Flow Year Flow Net Cash Flow
1 $450,000 $450,000 1 $500,000 $500,000
2 450,000 900,000 2 400,000 900,000
b. Net present value analysis:
2. The report can take many forms and should include, at a minimum, the
following points:
a. Both projects offer the same total cumulative net cash flow.
b. Both projects offer the same cash payback period, which is equal to 2 years.
Plant Expansion
Retail Store Expansion
CHAPTER 26 Capital Investment Analysis
Prob. 26-3A
1.
1 0.833 $ 4,000,000 $3,332,000
Present Value Net Cash Present Value of
Year of $1 at 20% Flow Net Cash Flow
1 0.833 $12,000,000 $ 9,996,000
Present Value Net Cash Present Value of
Year of $1 at 20% Flow Net Cash Flow
1 0.833 $ 6,000,000 $ 4,998,000
2 0.694 5,000,000 3,470,000
Ramp Facilities
Computer Network
Maintenance Equipment
CHAPTER 26 Capital Investment Analysis
Prob. 26-3A (Concluded)
$7,208,500
$8,000,000
*Rounded
3. The computer network has the largest present value index. Although ramp
facilities has the largest net present value, it returns less present value per dollar
2.
Present value index of
maintenance equipment: = 0.90*
Present Value Index = Total Present Value of Net Cash Flow
Amount to Be Invested
CHAPTER 26 Capital Investment Analysis
Prob. 26-4A
1. a. Wind Turbines:
Annual net cash flow (at the end of each of 4 years)……………………
…
$280,000
× Present value of an annuity of $1 at 6% for 4 years (Exhibit 5)……
…
3.465
Biofuel Equipment:
Annual net cash flow (at the end of each of 4 years)……………………
…
$ 300,000
× Present value of an annuity of $1 at 6% for 4 years (Exhibit 5)……
…
3.465
…
*Rounded
b.
Present value index of
biofuel equipment:
Present Value Index =
Present value index of
wind turbines:
Total Present Value of Net Cash Flow
Amount to Be Invested
$970,200
$887,600 = 1.09*
$1,039,500 = 1.14*
$911,100
2. Present Value Factor for an Annuity of $1 Amount to Be Invested
Annual Net Cash Flow
a. =
Wind turbines: $887,600 = 3.170
$280,000
…
CHAPTER 26 Capital Investment Analysis
Prob. 26-4A (Concluded)
3. The net present value, present value index, and internal rate of return all indicate
that the biofuel equipment is a better financial opportunity compared with the wind
turbines, although both investments meet the minimum return criterion of 6%. The
present value index indicates that the biofuel equipment had a greater present
CHAPTER 26 Capital Investment Analysis
Prob. 26-5A
1. Net present value analysis:
Office Expansion:
Annual net cash flow (at the end of each of 6 years)………………………
…
$125,000
× Present value of an annuity of $1 at 12% for 6 years (Exhibit 5)………
…
4.111
Present value of annual net cash flows………………………………………
…
$513,875
Server Upgrade:
Annual net cash flow (at the end of each of 4 years)………………………
…
$165,000
× Present value of an annuity of $1 at 12% for 4 years (Exhibit 5)………
…
3.037
…
…
2. Net present value analysis:
Office Office
Expansion Servers Expansion
1 $125,000 $165,000 $111,625 $147,345
2 125,000 165,000 99,625 131,505
3 125,000 165,000 89,000 117,480
4 125,000 165,000 79,500 104,940
3. To: Investment Committee
Both office expansion and server projects have a positive net present value. This
means that both projects meet our minimum expected return of 12% and would be
acceptable investments. However, if funds are limited and only one of the two
projects can be funded, then the two projects must be compared over equal lives.
Year
0.893
0.797
0.712
0.636
Net Cash FlowNet Cash Flow
Present Value of
$1 at 12%
Value of
Present
Servers
…
CHAPTER 26 Capital Investment Analysis
Prob. 26-6A
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
2 80,000 180,000
Proposal C: 3-year, 6-month cash payback period, as follows:
Net Cash Cumulative
Year Flow Net Cash Flows
1 $100,000 $100,000
2 90,000 190,000
3 90,000 280,000
6 months* 40,000 320,000
*The net cash flow required is $40,000 out of $80,000 in Year 4 or 1/2. Thus, 1/2 of 12 months
is 6 months.
Proposal D: 3-year payback period, as follows:
Net Cash Cumulative
Year Flow Net Cash Flows
CHAPTER 26 Capital Investment Analysis
Prob. 26-6A (Continued)
2. Proposal A: 5.3% average rate of return, determined as follows:
$12,000
$225,000
Proposal B: 18.0% average rate of return, determined as follows:
$18,000
$100,000
=
=
18.0%
5.3% (rounded)
($450,000 + $0) ÷ 2
$60,000 ÷ 5
=
($200,000 + $0) ÷ 2
$90,000 ÷ 5
=
CHAPTER 26 Capital Investment Analysis
Prob. 26-6A (Continued)
3. Of the four proposed investments, only Proposals B and D meet the company’s
requirements, as the following table indicates:
Cash Paybac
k
Average Rate Accept fo
r
Proposal Period of Return Further Analysis Reject
A 4 yrs. 5.3% X
B 2 yrs., 4 mos. 18.0% X
4.
1 0.893 $100,000 $ 89,300
2 0.797 80,000 63,760
3 0.712 60,000 42,720
Present Value Net Cash Present Value of
Year of $1 at 12% Flow Net Cash Flow
1 0.893 $200,000 $178,600
2 0.797 180,000 143,460
3 0.712 160,000 113,920
Proposal B
Proposal D
CHAPTER 26 Capital Investment Analysis
Prob. 26-6A (Concluded)
6. Based on the net present value, the proposals should be ranked as follows:
Proposal D: $29,000
Proposal B: $26,200
7. Based on the present value index (the amount of present value per dollar invested),
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 of present
value per dollar invested. Proposal D requires the larger investment. Thus,
management should use investment resources for Proposal B before investing in
5.
Present Value Index =
Total Present Value of Net Cash Flow
Amount to Be Invested
CHAPTER 26 Capital Investment Analysis
Prob. 26-1B
1. a. Average annual rate of return for both projects:
$34,400
$184,000
b. Net present value analysis:
Yea
r
Warehouse Warehouse
1 $135,000 $117,450 $ 93,960
2 125,000 94,500 81,648
3 110,000 72,380 71,064
2. The report to the capital investment committee can take many forms. The report
should, at a minimum, present the following points:
a. Both projects offer the same average annual rate of return.
b. The warehouse net present value exceeds the selected rate established for
Present Value of
= 18.7%=
Tracking
Technology
Net Cash FlowNet Cash Flow
Technology
Tracking
($368,000 + $0) ÷ 2
$172,000 ÷ 5
$1 at 15%
Value of
Present
0.870 $108,000
0.756
0.658
108,000
108,000
CHAPTER 26 Capital Investment Analysis
Prob. 26-2B
1. a. Cash payback period for both projects: 2 years (the year in which accumulated
net cash flows equal $175,000), shown as follows:
Net Cash Cumulative Net Cash Cumulative
Year Flow Net Cash Flow Year Flow Net Cash Flow
1 $91,000 $ 91,000 1 $98,000 $ 98,000
2 84,000 175,000 2 77,000 175,000
b. Net present value analysis:
Present
V
alue of Sound Pro Sound Pro
Year $1 at 10% Cellar Gamer Cellar Gamer
1 0.909 $ 91,000 $ 98,000 $ 82,719 $ 89,082
2 0.826 84,000 77,000 69,384 63,602
2. The report can take many forms and should include, at a minimum, the following
points:
a. Both projects offer the same total cumulative net cash flow.
b. Both projects offer the same cash payback period, which is equal to 2 years.
Sound Cellar
Net Cash FlowNet Cash Flow
Present Value of
Pro Gamer
CHAPTER 26 Capital Investment Analysis
Prob. 26-3B
1.
Present Value Net Cash Present Value of
Year of $1 at 15% Flow Net Cash Flow
1 0.870 $200,000 $174,000
2 0.756 160,000 120,960
Present Value Net Cash Present Value of
Year of $1 at 15% Flow Net Cash Flow
1 0.870 $190,000 $165,300
2 0.756 180,000 136,080
Present Value Net Cash Present Value of
Year of $1 at 15% Flow Net Cash Flow
1 0.870 $275,000 $239,250
2 0.756 250,000 189,000
Computer System Upgrade
ATM Kiosk Expansion
Branch Office Expansion