Capital Budgeting
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ProblemSet.docx
Problem Set 2 Capital Budgeting
Show all inputs, outputs and additional calculations for full credit.
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Table 1
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PepsiCo is considering a new project. Cash flow analysis indicates the following:
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Initial cost in Year 0: |
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Year 0 -$100,000 |
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Year 1 $4,000 |
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Year 2 $6,000 |
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Year 3 $22,000 |
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Year 4 $47,000 |
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Year 5 -$82,000 |
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Year 6 $27,000 |
1. Refer to Table 1 above. Assume the weighted average cost of capital = 10%.
A) What is the Net Present Value for this Project?__________
Would you accept or reject the project?_______________
Explain why or why not.
B) What is the Internal Rate of Return for this Project?
Would you accept or reject the project?_______________
Explain why or why not.
C) Which method is better for this project?______
Explain your answer.
2. Assume Keurig Inc is evaluating whether or not to purchase a piece of equipment that will involve an initial outlay or cost of $1 million. Assume a production of a new product line will begin 6 months following installation and will yield the following estimated Operating Cash Flows per year for the following years listed in Table 2 below:
Table 2
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Year 1 |
$30,000 |
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Year 2 |
$120,000 |
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Year 3 |
$410,000 |
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Year 4 |
$500,000 |
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Year 5 |
$600,000 |
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Year 6 |
$450,000 |
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Year 7 |
$400,000 In addition… At the end of Year 7, the equipment will be sold for an after tax terminal value of $10,000.
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Assume the wacc=12%
A) What is the Internal Rate of Return (IRR)? ___________
B) Would you accept or reject the project?______________
C) Explain why or why not______
3. Refer to Table 3 below.
Table 3
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Year |
Cash Flow |
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0 |
-$102,000 |
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1 |
$ 15,000 |
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2 |
$ 60,000 |
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3 |
$ 50,000 |
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4 |
$ 57,000 |
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5 |
$ 80,000 |
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6 |
$ 17,000 |
A) Given Table 3, what is the Payback Period? __________
B) Assume you want your money back within 3.75 years. Would you accept or reject the project?_______________
4. Refer to Table 4 below.
Table 4
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Year |
Cash Flow |
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0 |
-$205,000 |
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1 |
$ 15,000 |
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2 |
$ 11,000 |
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3 |
$ 60,000 |
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4 |
$ 45,000 |
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5 |
$ 77,000 |
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6 |
$ 115,000 |
A) Assume the wacc =5%. What is the Discounted Payback Period?
B) Assume you want your money back within 5.5 years. Would you accept or reject the project?_______________
C) Explain why or why not.________
5. Given the following Cash flows for Project A and Project B respectively, calculate the Modified Internal Rate of Return (MIRR) for Project A and the MIRR for Project B. Assume the company has a wacc = 8%.
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Year |
Cash Flows Project A |
Cash Flows Project B |
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0 |
-120,000 |
- 50,000 |
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1 |
45,000 |
-100,000 |
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2 |
55,000 |
20,000 |
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3 |
-25,000 |
80,000 |
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4 |
90,000 |
250,000 |
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5 |
90,000 |
25,000 |
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6 |
-13,000 |
-100,000 |
A) If these projects are independent, which project(s) would you accept?
Explain your answer.
B) If these projects are mutually exclusive, which project(s) would you accept?
Explain your answer.
C) If Project B is a riskier project than Project B, would you use the same wacc to evaluate both Project A and Project B? ________
Explain your answer.
6. Given the five methods presented in Capital budgeting, which method is the best for evaluating a projects contribution to firm value. In a paragraph explain your answer. Include the advantages and disadvantages of the method you chose.
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