Question

Consider two projects with the following cash flows: Project S is a 4 year project with...

Consider two projects with the following cash flows: Project S is a 4 year project with initial (time 0) cash outflow of 3000 and time 1 through 4 cash inflows of 1500, 1200, 800 and 300 respectively. Project L is a 4 year project with initial (time 0) cash outflow of 3000 and time 1 through 4 cash inflows of 400, 900, 1300, and 1500 respectively. Assuming a 5% cost of capital, determine which project should be chosen if the projects are independent.

Project should be chosen on the basis of NPV

NPV of project S = Present value of cash inflows - present value of cash outflows

NPV of project S = -3000 + 1500 / (1 + 0.05)1 + 1200 / (1 + 0.05)2 + 800 / (1 + 0.05)3 + 300 / (1 + 0.05)4

NPV of project S = \$454.89

NPV of project L = Present value of cash inflows - present value of cash outflows

NPV of project L = -3000 + 400 / (1 + 0.05)1 + 900 / (1 + 0.05)2 + 1300 / (1 + 0.05)3 + 1500 / (1 + 0.05)4

NPV of project L = \$554.32

Both projects should be accepted as bot projects have positive NPV