Question

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isand Airlines Inc. needs to replace a short-haul commuter plane on one of its busier routes. Two aircraft are on the market that satisfy the general requirements of the route. One is more expensive than the other but has better fuel efficiency and load-bearing characteristics, which result in better long-term profitability. The useful life of both planes is expected to be about seven years, after which time both are assumed to have no value. Cash flow projections for the two aircraft follow.

	Low Cost	High Cost
Initial cost	$775,000	$950,000
Cash inflows, years 1 through 7	154,000	176,275

1. Calculate the NPV and PI of each project, assuming the following costs of capital: 2%, 4%, 6%, 8%, and 10%. Use annuity methods. Do not round intermediate calculations. Round PVFA values in intermediate calculations to four decimal places. Round NPV to the nearest dollar, round PI to two decimal places. Use a minus sign to indicate a negative NPV.

   		Low Cost	High Cost
   2%	NPV	$	$
   	PI
   4%	NPV	$	$
   	PI
   6%	NPV	$	$
   	PI
   8%	NPV	$	$
   	PI
   10%	NPV	$	$
   	PI

   
   Is the same plane selected by NPV and PI at every level of cost of capital? Investigate the relative attractiveness of the two planes under each method.

Answer 1

NPV=Present value of future cashinflows-Initial cost

NPV can be found by NPV function in EXCEL

NPV(rate,Year1 to Year7 cashflows)-Initial cost

PI=Present value of future cashinflows/Initial cost

EXCEL formula is,

NPV(rate,Year1 to Year7 cashflows)/Initial cost

The findings are mentioned in the below sheet.

Based on NPV and PI, we should select Lowcost plane as it has positive NPV and PI greater than 1. But for 10% cost of capital, both the projects have negative NPV and PI lower than 1. Hence, better to avoid at only 10% cost of capital. But at other cost of capital like 2%,4%,6% and 8%, Lowcost plane should be selected.