Spreadsheet Problem

Book Title: eTextbook: Corporate Finance: A Focused Approach Chapter 10. The Basics of Capital Budgeting: Evaluating Cash Flows Spreadsheet Problem

(10-23)

Spreadsheet Problem

Build a Model: Capital Budgeting Tools

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Start with the partial model in the file Ch10 P23 Build a Model.xlsx on the

textbook’s Web site. Gardial Fisheries is considering two mutually

exclusive investments. The projects’ expected net cash flows are as follows:

447

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?

  Expected Net Cash Flows

Year 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

b. Construct NPV profiles for Projects A and B.

c. What is each project’s IRR?

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

e. What is each project’s MIRR at a cost of capital of 12%? At r = 18%? (Hint:

Consider Period 7 as the end of Project B’s life.)

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

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

two projects?

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

Build a Model

Build a Model								11/26/18
Chapter:	10
Problem:	23
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 this chapter's Tool Kit. Note that the range does not include the costs, which are added separately.
WACC =	12%		WACC =	18%
NPV A =			NPV A =
NPV B =			NPV B =
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
0%
2%
4%
6%
8%
10%
12%
14%
16%
18%
20%
22%
24%
26%
28%
30%
c. What is each project's IRR?
We find the internal rate of return with Excel's IRR function:
IRR A =		Note in the graph above that the X-axis intercepts are equal to the two projects' IRRs.
IRR B =
d. What is the crossover rate, and what is its significance?
	Cash flow
Time	differential
0
1
2			Crossover rate =
3
4			The crossover rate represents the cost of capital at which the two projects value, at a cost of capital of 13.14% is: have the same net present value. In this scenario, that common net present
5
6
7
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 =	DII Labs: Use Excel's MIRR function	DII Labs: The difference in cash flows between Project "A" and Project "B".	DII Labs: Net Present Value of "A" discounted at a WACC of 12%				DII Labs: The IRR for the Cash Flow Differential	DII Labs: Net Present Value of "A" discounted at a WACC of 18%	MIRR A =
	MIRR B =			MIRR B =
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
Intermediate calculation for payback
Payback using intermediate calculations
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
Intermediate calculation for payback
Payback using intermediate calculations
	Payback using PERCENTRANK		Ok because cash flows follow normal pattern.
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
	Disc. cum. cash flow
Intermediate calculation for payback
Payback using intermediate calculations
Project B
	Time period	0	1	2	3	4	5	6	7
	Cash flow
	Disc. cash flow
	Disc. cum. cash flow
Intermediate calculation for payback
Payback using intermediate calculations
	Discounted Payback using PERCENTRANK		Ok because cash flows follow normal pattern.
h. What is the profitability index for each project if the cost of capital is 12%?
PV of future cash flows for A:
PI of A:
PV of future cash flows for B:
PI of B:

NPV Profiles

0 0.02 0.04 0.06 0.08 0.1 0.12 0. 14000000000000001 0.16 0.18 0.2 0.22 0.24 0.26 0.28000000000000003 0.3 0 0.02 0.04 0.06 0.08 0.1 0.12 0.14000000000000001 0.16 0.18 0.2 0.22 0.24 0.26 0.28000000000000003 0.3

Cost of Capital

NPV

Project A

Project B