Question

Capital Budgeting

BioMed Engineering is considering two mutually exclusive investments. The projects' expected net cash flows are as follows:                                                                                                      

                        Expected Net Cash Flows                                                                                   

            Time     Project A          Project B                                                                       

            0          ($405)                ($705)                                                               

            1          ($285)              $200                                                                 

            2          ($205)              $205                                                                 

            3          ($105)              $210                                                                 

            4          $605                 $215                                                                 

            5          $650                 $220                                                                 

            6          $925                 $225                                                                 

            7          ($200)              $230                                                                 

In your report, identify which project would be selected (assuming they are mutually exclusive) for each investment criterion. Note that cash outflows (costs) are given in parenthesis. Employ the Excel file to answer the following questions

Part 1: Net Present Value

1. Use the Excel NPV function to calculate the NPV for each project at a cost of capital equal to 8%. Note the range of values in the NPV function should not include the initial cost (CF₀). Make sure to add this separately. (7 points)
2. Use the Excel NPV function to calculate the NPV for each project at a cost of capital equal to 16%. Note the range of values in the NPV function should not include the initial cost (CF₀). Make sure to add this separately. (7 points)

Part 1:

A) Net Present Value at 8% Cost of Capital

Cost of capital =

8%

NPV _A =

Cost of capital =

8%

NPV _B =

B) Net Present Value Project at 16% Cost of Capital

Cost of capital  =	16%	NPV A =
Cost of capital  =	16%	NPV B =

Answer 1

NPV needs to be calculated using NPV function in EXCEL

=NPV(rate,Year1 to year7 cashflows)-Year0 cashflow

A. NPV of Project A,8%=NPV(8%,Year1 to Year7 cashflows)-405=$425.29

NPV of project B,8%=NPV(8%,Year1 to Year7 cashflows)-705=$406.40

NPV of Project A>NPV of Project B, hence Project A has to be selected at 8% cost of capital

B. NPV of Project A,16%=NPV(16%,Year1 to Year7 cashflows)-405=$82.20

NPV of project B,16%=NPV(16%,Year1 to Year7 cashflows)-705=$151.52

NPV of Project B>NPV of Project A, hence Project B has to be selected at 16% cost of capital

		project A	project B
	Year0	-405	-705
	Year1	-285	200
	Year2	-205	205
	Year3	-105	210
	Year4	605	215
	Year5	650	220
	Year6	925	225
	Year7	-200	230
8%	NPV	425.29	406.40
16%	NPV	82.20	151.52