Question

Consider the case of Cute Camel Woodcraft Company: Cute Camel Woodcraft Company is a small firm, and several of its managers are worried about how soon the firm will be able to recover its initial investment from Project Alpha’s expected future cash flows. To answer this question, Cute Camel’s CFO has asked that you compute the project’s payback period using the following expected net cash flows and assuming that the cash flows are received evenly throughout each year. Complete the following table and compute the project’s conventional payback period. For full credit, complete the entire table. (Note: Round the conventional payback period to two decimal places. If your answer is negative, be sure to use a minus sign in your answer.)
The conventional payback period ignores the time value of money, and this concerns Cute Camel’s CFO. He has now asked you to compute Alpha’s discounted payback period, assuming the company has a 8% cost of capital. Complete the following table and perform any necessary calculations. Round the discounted cash flow values to the nearest whole dollar, and the discounted payback period to two decimal places. For full credit, complete the entire table. (Note: If your answer is negative, be sure to use a minus sign in your answer.)
Which version of a project’s payback period should the CFO use when evaluating Project Alpha, given its theoretical superiority? The regular payback period The discounted payback period One theoretical disadvantage of both payback methods—compared to the net present value method—is that they fail to consider the value of the cash flows beyond the point in time equal to the payback period. How much value in this example does the discounted payback period method fail to recognize due to this theoretical deficiency? $4,529,607 $1,696,274 $1,250,286 $2,916,953 |
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Answer #1

Blue Hamster Manufacturing Inc. is a small firm, and several of
its managers are worried about how soon the firm will be able to
recover its initial investment from Project Sigma’s expected future
cash flows. To answer this question, Blue Hamster’s CFO has asked
that you compute the project’s payback period using the following
expected net cash flows and assuming that the cash flows are
received evenly throughout each year.
Complete the following table and compute the project’s
conventional payback...

Cold Goose Metal Works Inc. is a small firm, and several of its
managers are worried about how soon the firm will be able to
recover its initial investment from Project Beta’s expected future
cash flows. To answer this question, Cold Goose’s CFO has asked
that you compute the project’s payback period using the following
expected net cash flows and assuming that the cash flows are
received evenly throughout each year.
Complete the following table and compute the project’s
conventional...

The conventional payback period ignores the time value of money,
and this concerns Fuzzy Button’s CFO. He has now asked you to
compute Alpha’s discounted payback period, assuming the company has
a 7% cost of capital.
Complete the following table and perform any necessary
calculations. Round the discounted cash flow values to the nearest
whole dollar, and the discounted payback period to the nearest two
decimal places. Again, be sure to complete the entire table—even if
the values exceed the...

Cute Camel Woodcraft Company is analyzing a project that
requires an initial investment of $2,750,000. The project’s
expected cash flows are:
Year
Cash Flow
Year 1
$350,000
Year 2
–125,000
Year 3
400,000
Year 4
500,000
Cute Camel Woodcraft Company’s WACC is 9%, and the project has
the same risk as the firm’s average project. Calculate this
project’s modified internal rate of return (MIRR):
19.63%
-16.48%
27.71%
25.40%
If Cute Camel Woodcraft Company’s managers select projects based
on the MIRR...

Suppose Cute Camel Woodcraft Company is evaluating a proposed
capital budgeting project (project Alpha) that will require an
initial investment of $450,000. The project is expected to generate
the following net cash flows:
Year
Cash Flow
Year 1
$375,000
Year 2
$475,000
Year 3
$400,000
Year 4
$500,000
Cute Camel Woodcraft Company’s weighted average cost of capital
is 10%, and project Alpha has the same risk as the firm’s average
project. Based on the cash flows, what is project Alpha’s...

Your boss has asked you to calculate the profitability ratios of
Cute Camel Woodcraft Company and make comments on its second-year
performance as compared to its first-year performance. The
following shows Cute Camel’s income statement for the last two
years. The company had assets of $10,575,000 in the first year and
$16,916,400 in the second year. Common equity was equal to
$5,625,000 in the first year, 100% of earnings were paid out as
dividends in the first year, and the...

3. Understanding the IRR and NPV
The net present value (NPV) and internal rate of return (IRR)
methods of investment analysis are interrelated and are sometimes
used together to make capital budgeting decisions.
Consider the case of Cute Camel Woodcraft Company:
Last Tuesday, Cute Camel Woodcraft Company lost a portion of its
planning and financial data when both its main and its backup
servers crashed. The company’s CFO remembers that the internal rate
of return (IRR) of Project Zeta is...

11. The NPV and payback period
What information does the payback period provide?
A project’s payback period (PB) indicates the number of years
required for a project to recover its initial investment using its
operating cash flows. As the theoretical soundness of the
conventional (undiscounted) PB technique was criticized, the model
was modified to incorporate the time value of money-adjusted
operating cash flows to create the discounted payback method. While
both payback models continue to reflect faulty ranking criteria,
they...

Suppose Extensive Enterprises’s CFO is evaluating a project with
the following cash inflows. She does not know the project’s initial
cost; however, she does know that the project’s regular payback
period is 2.5 years.
Year
Cash Flow
Year 1
$275,000
Year 2
$450,000
Year 3
$500,000
Year 4
$400,000
If the project’s weighted average cost of capital (WACC) is 9%,
what is its NPV?
A. $260,409
B. $390,613
C. $325,511
D. $309,235
Which of the following statements indicate a disadvantage...

Suppose Acme Manufacturing Corporation’s CFO is evaluating a
project with the following cash inflows. She does not know the
project’s initial cost; however, she does know that the project’s
regular payback period is 2.5 years.
Year
Cash Flow
Year 1
$350,000
Year 2
$425,000
Year 3
$475,000
Year 4
$425,000
If the project’s weighted average cost of capital (WACC) is 7%,
what is its NPV?
$397,786
$437,565
$417,675
$457,454
Which of the following statements indicate a disadvantage of
using the...

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