Question

Perit Industries has $130,000 to invest. The company is trying to decide between two alternative uses of the funds. The alternatives are:

	Project A		Project B
Cost of equipment required	$	130,000	$	0
Working capital investment required	$	0	$	130,000
Annual cash inflows	$	22,000	$	33,000
Salvage value of equipment in six years	$	8,300	$	0
Life of the project		6 years		6 years

The working capital needed for project B will be released at the end of six years for investment elsewhere. Perit Industries’ discount rate is 14%.

Click here to view Exhibit 13B-1 and Exhibit 13B-2, to determine the appropriate discount factor(s) using tables.

Required:

1. Compute the net present value of Project A. (Enter negative values with a minus sign. Round your final answer to the nearest whole dollar amount.)

2. Compute the net present value of Project B. (Enter negative values with a minus sign. Round your final answer to the nearest whole dollar amount.)

3. Which investment alternative (if either) would you recommend that the company accept?

Answer 1

Solution 1&2:

Computation of NPV
			Project A		Project B
Particulars	Period	PV Factor (14%)	Amount	Present Value	Amount	Present Value
Cash outflows:
Cost of Equipment	0	1	$130,000	$130,000	$0	$0
Investment in working capital	0	1	$0	$0	$130,000	$130,000
Present Value of Cash outflows (A)				$130,000		$130,000
Cash Inflows
Annual cash inflows	1-6	3.889	$22,000	$85,558	$33,000	$128,337
Salvage value	6	0.456	$8,300	$3,785	$0	$0
Release of working capital	6	0.456	$0	$0	$130,000	$59,280
Present Value of Cash Inflows (B)				$89,343		$187,617
Net Present Value (NPV) (B-A)				-$40,657		$57,617

Solution 3:

Company should accept project B as same is having higher net present value.