Question

RainMan Inc. is in the business of producing rain upon request. They must decide between two...

RainMan Inc. is in the business of producing rain upon request. They must decide between two investment projects: a new airplane for seeding rain clouds or a new weather control machine built by Dr. Nutzbaum. The discount rate for the new airplane is 9 percent, while the discount rate for the weather machine is 39 percent (it happens to have higher market risk). Which investment should the company select and why? (Assume a 0 percent inflation rate and that projected costs do not change over time.)

Year Airplane Weather Machine
0 −900 −900
1 500 550
2 600 600
3 685

Group of answer choices

A. Airplane, because it has a higher NPV

B. Weather machine, because it has a higher NPV

C. Airplane, because it has a higher equivalent annual cash flow

D. Weather machine, because it has a higher equivalent annual cash flow

Please explain the reason why.

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Homework Answers

Answer #1

A) AIRPLANE ,BECAUSE IT HAS A HIGHER NPV

CALCULATION OF NPV

AIRPLANE
CASH FLOWS PV FACTOR @9% PV OF CASH FLOWS
YEAR 0 -900 -900
YEAR 1 500 0.917 458.72
YEAR 2 600 0.842 505.01
YEAR 3 0 0.772 0.00
ROR 9% NPV = 63.72
WEATHER MACHINE
CASH FLOWS PV FACTOR @39% PV OF CASH FLOWS
YEAR 0 -900 -900
YEAR 1 550 0.719 395.68
YEAR 2 600 0.518 310.54
YEAR 3 685 0.372 255.06
ROR 39% NPV = 61.29

If NPV is positive, that means that the value of the revenues (cash inflows) is greater than the costs (cash outflows). When revenues are greater than costs, the investor makes a profit. ... In theory, an investor should make any investment with a positive NPV, which means the investment is making money.therefore project with highest NPV should be chosen in case of mutually exclusive events

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