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Gardial Fisheries 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 ($375) ($575)
1 ($300) $190
2 ($200) $190
3 ($100) $190
4 $600 $190
5 $600 $190
6 $926 $190
7 ($200) $0

a. If each project's cost of capital is 12%, which project should be selected? If the cost of capital is
18%, what project is the proper choice?

@ 12% cost of capital @ 18% cost of capital


Use Excel's NPV function as explained in
WACC = 12% WACC = 18% this chapter's Tool Kit. Note that the range
does not include the costs, which are added
NPV A = $226.96 NPV A = $18.24 separately.

NPV B = $206.17 NPV B = $89.54

At a cost of capital of 12%, Project A should be selected. However, if the cost of capital rises to 18%,
then the choice is reversed, and Project B should be accepted.

b. Construct NPV profiles for Projects A and B.

Before we can graph the NPV profiles for these projects, we must create a data table of project NPVs
relative to differing costs of capital.

Project A Project B
C
0% $951.00 $565.00
2% $774.82 $479.68 $1,200.00
4% $623.67 $404.81
6% $493.79 $338.95 $1,000.00
8% $382.02 $280.88 $800.00
10% $285.71 $229.55
12% $202.65 $184.08 $600.00
14% $130.94 $143.73
16% $68.99 $107.84 $400.00
18% $15.45 $75.89
$200.00
20% ($30.82) $47.37
22% ($70.81) $21.90 $0.00
24% ($105.36) ($0.90) 0% 2% 4% 6% 8% 10% 1
26% ($135.19) ($21.31) ($200.00)
28% ($160.91) ($39.62)
($400.00)
$200.00

$0.00
0% 2% 4% 6% 8% 10% 1
($200.00)

($400.00)
30% ($183.06) ($56.06)

c. What is each project's IRR?

We find the internal rate of return with Excel's IRR function:


Note in the graph above that the X-axis intercepts are equal to the two projects'
IRR A = 18.64% IRRs.
IRR B = 23.92%

d. What is the crossover rate, and what is its significance?

Cash flow
Time differential
0 $200
1 ($490)
2 ($390) Crossover rate = 13.14%
The crossover rate represents the cost of
3 ($290) capital at which the two projects value, at
4 $410 a cost of capital of 13.14% is:
5 $410 have the same net present value. In this
6 $736 scenario, that common net present $181.59
7 ($200)

e. What is each project's MIRR at a cost of capital of 12%? At r = 18%? Hint: note that B is a 6-year project.

@ 12% cost of capital @ 18% cost of capital

MIRR A = 15.43% MIRR A = 18.34%


MIRR B = 17.01% MIRR B = 20.47%

f. What is the regular payback period for these two projects?

Project A
Time period 0 1 2 3 4 5 6 7
Cash flow (375) (300) (200) (100) 600 $600 $926 ($200)
Cumulative cash flow (375) (675) (875) (975) (375) 225 1,151 951
Payback 4.757

Project B
Time period 0 1 2 3 4 5 6 7
Cash flow (575) 190 190 190 190 $190 $190 $0
Cumulative cash flow (575) (385) (195) (5) 185 375 565 565
Payback 3.026

g. At a cost of capital of 12%, what is the discounted payback period for these two projects?

WACC = 12%

Project A
Time period 0 1 2 3 4 5 6 7
Cash flow (375) (300) (200) (100) 600 $600 $926 ($200)
Disc. cash flow 375 268 159 71 (381) (340) (469) 90
Disc. cum. cash flow 375 643 802 873 492 152 (317) (227)
Discounted Payback 5.32

Project B
Time period 0 1 2 3 4 5 6 7
Cash flow (575) 190 190 190 190 $190 $190 $0
Disc. cash flow 575 (170) (151) (135) (121) (108) (96) 0
Disc. cum. cash flow 575 405 254 119 (2) (110) (206) (206)
Discounted Payback 3.98

h. What is the profitability index for each project if the cost of capital is 12%?

PV of future cash flows for A: $601.96


PI of A: 1.61

PV of future cash flows for B: $781.17


PI of B: 1.36
Chart Title

6% 8% 10% 12% 14% 16% 18% 20% 22% 24% 26% 28% 30%
6% 8% 10% 12% 14% 16% 18% 20% 22% 24% 26% 28% 30%

ar project.

MIRR
To calculate the MIRR,
Calculate the PV of Outflows: (npv(r%, cashflows even the zeros)
Calculate the PV of INflows: (npv(r%, cashflows even the zeros)
Calculate the FV of INflows: FV of the PV of Inflows at r%
Calculate MIRR which is I for PV = PV of Outflows, FV= FV of Inflows, PMT= 0
zeros)
ros)

f Inflows, PMT= 0