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Beacon company is considering two different, mutually exclusive capital expenditure proposals....

Question:

Beacon company is considering two different, mutually exclusive capital expenditure proposals. Project A will cost $400,000, has an expected useful life of 10 years, a salvage value of zero, and is expected to increase net annual cash flows by $70,000. Project B will cost $310,000, has an expected useful life of 10 years, a salvage value of zero, and is expected to increase net annual cash flows by $55,000. A discount rate of 9% is appropriate for both projects. Compute the net present value and profitability index of each project. Which project should be accepted?

Net Present Value & Profitability Index for Mutually Exclusive Projects:

The net present value is calculated by deducting the initial investment from the sum of present value of all prospective cash flows which are discounted by a discount factor that takes into consideration the discount rate and respective timing of cash flow represented by the exponential power. The net profitability index is calculated by dividing the sum of net present value and initial investment with the initial investment.

Answer and Explanation:

The calculations for net present value and profitability index for each of the projects are shown below:

Project A

  • Here, initial cost at time t = 0...

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Net Present Value: Evaluating Estimates
Net Present Value: Evaluating Estimates

from Financial Accounting: Help and Review

Chapter 4 / Lesson 1
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