ADMS 3530 Chapter Notes - Chapter 8: Discounted Cash Flow, Payback Period, Cash Flow

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carmineraccoon724

27 Apr 2019

School

York University

Department

Administrative Studies

Course

ADMS 3530

Professor

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Document Summary

Present value is the only feasible price that satisfies both buyer and seller (also called market price or value) Opportunity cost of capital: expected rate of return given up by investing in a project. (if you decide to invest in this project, you will forgo other, similar investment opportunities) Accepts too many short- term projects and reject long-term. Discounted payback: the time until discounted cash flows recover the initial investment (discounted cash flow previous cumulative discounted cash flows). Advantage is that once at the cutoff payback period, npv is positive. Rate of return = (cash flow year 1 investment) / investment. The rate of return is the discount rate at which npv equals zero. If opportunity cost of capital < rate of return = npv is positive. Irr measures the profitability of the project, it depends on the project"s own cash flows. Opportunity cost of capital is the standard for deciding whether to accept the project.

Related Questions

Problem 1

All Techniques- Decision among mutually exclusive investments. Pound industries is attempting to select the best of three mutually exclusive projects. The initial investment and after tax cash inflows associated with these projects are shown in the following table

Cash flow Project A Project B Project C

Initial investment (CF) $80,000 $110,000 $110,000

Cash inflows (CF), T=1 to 5 $25,000 $37,000 $38,500

Calculate the payback period for each project

Calculate the net present value (NPV) of each project, assuming that the fimrm has a cost of capital equal to 11%

Calculate the internal rate of return (IRR) for each project

Indicate which project you would recommend

A-the payback period of project A is ___years

the payback period of project B is ___years

the payback period of project C is ___years

B-the NPV of project A is $____

the NPV of project B is $____

the NPV of project C is $____

C- The IRR of project A is _____

The IRR of project B is _____

The IRR of project C is _____

D- which project would you recommend?

Project A

Project B

Project C

Problem 2

IRR, investment life, and cash inflows Oak enterprise accepts projects earning more than the firms 15% cost of capital. Oak is currently considering a 10 year project that provides annual cash inflows of $50,000 and requires an initial investment of $328,300

Deter the IRR of the project is it acceptable

Assuming that the cash inflos continue to be $50,000 per year how many additional years would the flows have to continue to make the project acceptable (that is, to make it have an IRR of 15%?

A. the project IRR is ___%

Is the project acceptable?

Yes or no

B. assuming that the cash inflows continue to be $50,000 per year the number of additional years the flows would have to continue to make the project acceptable at the 15% discount rate is ____ additional years

C) with the given life, initial investment and cost of capital the minimum annual cash inflow that the firm should accept is $______

greyswan843

The conference on evaluating capital projects has been very helpful. You have received a significant amount of information and multiple projects to evaluate to hone your skills. To adequately teach Grammy and the board you will need to answer several questions about the capital-budgeting process. You will do this in a business memo that is no more than four pages long.

Provide an evaluation of two proposed project, both with a 5-year expected lives and identical initial outlays of $110,000. Both of these projects involve additions to a highly successful product line, and as a result, the required rate of return on both projects has been established at 12 percent. The expected free cash flows from each project are as follows:

	Project A	Project B
Initial outlay	-$110,000	-$110,000
Inflow year 1	20,000	40,000
Inflow year 2	30,000	40,000
Inflow year 3	40,000	40,000
Inflow year 4	50,000	40,000
Inflow year 5	70,000	40,000

In evaluating these projects, please respond to the following question:

Why is the capital-budgeting process so important?

Why is it difficult to find exceptionally profitable projects?

What is the payback period on each project? If the organization imposes a 3-year maximum acceptable payback period, which of these projects should be accepted?

What are the criticisms of the payback period?

Determine the NPV for each of these projects. Should they be accepted?

Describe the logic behind the NPV.

Determine the PI for each of these projects. Should they be accepted?

Would you expect the NPV and PI methods to give consistent accept/reject decisions? Why or why not?

What would happen to the NPV and PI for each project if the required rate of return increased? If the required rate of return decreased?

Determine the IRR for each project. Should they be accepted?

How does a change in the required rate of return affect the projectâs internal rate of return?

What reinvestment rate assumptions are implicitly made by the NPV and IRR methods? Which one is better?

rubyhippopotamus257

Cute Camel Woodcraft Company is a small firm, & several of its managers are worried about how soon the firm will be able to recover its initial investment from Project Omegaâs expected future cash flows. To answer this question, Cute Camelâs CFO has asked that you compute the projectâs payback period using the following expected net cash flows & assuming that the cash flows are received evenly throughout each year. 1. Complete the following table & compute the projectâs conventional payback period. Year 0 Year 1 Year 2 Year 3 Expected cash flow $-5,000,000 $2,000,000 $4,250,000 $1,750,000 Cumulative cash flow $ $ $ $ Conventional payback period: The conventional payback period ignores the time value of money, & this concerns Cute Camelâs CFO. He has now asked you to compute Omegaâs discounted payback period, assuming the company has a 7% cost of capital. 2. Complete the following table & perform any necessary calculations. Round the discounted cash flow values to the nearest whole dollar, & the discounted payback period to the nearest two decimal places. Again, be sure to complete the entire table - even if the values exceed the point at which the cost of the project is recovered. Year 0 Year 1 Year 2 Year 3 Cash flow $-5,000,000 $2,000,000 $4,250,000 $1,750,000 Discounted cash flow Cumulative discounted cash flow Discounted payback period 3. Which version of a project's payback period should the CFO use when evaluating Project Omega, given its theoretical superiority? A. the discounted payback period B. the regular payback period 4. How much value does the discounted payback period method fail to recognize due to this theoretical deficiency? A. $3,297,680 B. $2,009,795 C. $5,140,636 D. $1,428,521

jadewallaby191

ADMS 3530 Chapter Notes - Chapter 8: Discounted Cash Flow, Payback Period, Cash Flow

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