Question

Labeau Products, Ltd., of Perth, Australia, has $34,000 to invest. The company is trying to decide...

Labeau Products, Ltd., of Perth, Australia, has $34,000 to invest. The company is trying to decide between two alternative uses for the funds as follows:

Invest in
Project X
Invest in
Project Y
Investment required $ 34,000 $ 34,000
Annual cash inflows $ 9,000
Single cash inflow at the end of 6 years $ 60,000
Life of the project 6 years 6 years

The company’s 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 X.

2. Compute the net present value of Project Y.

3. Which project would you recommend the company accept?

Homework Answers

Answer #1

Formula for Net present value = Discounted Inflows - Discounted outflows

1. Net present value of Project X can be calculated as follows:

End of Year Cash Flow Present value factor @14% Discounted Cash Flow
0 (34000) 1 (34000)
1-6 9000 3.8887 35000
Total Inflows 35,000

Net present value = Discounted Inflows - Discounted outflows

= 35,000 - 34000 = $1,000

The net present value of Project X = $1,000.

2. Net present value of Project Y can be calculated as follows:

End of Year Cash Flow Present value factor @14% Discounted Cash Flow
0 (34000) 1 (34000)
6 60,000 0.4556 27336
Total Inflows 27,336

Net present value = Discounted Inflows - Discounted outflows

= 27,336 - 34000 = - $6,664

The net present value of Project Y = - $6,664.

3. It is recommended to invest in project X as the Net present value of Project X is greater than Project Y.

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