Chapter

 9  Homework  
 
1.)  What  is  the  payback  period  for  the  following  set  of  cash  flows?  
 
Year   Cash  Flow  

0   -­‐$6,400  

1   1,600  

2   1,900  

3   2,300  

4   1,400  

2.)  An  investment  project  provides  cash  inflows  of  $765  per  year  for  eight  years.  What  is  the  
project  payback  period  if  the  initial  cost  is  $2,400?  What  if  the  initial  cost  is  $3,600?  What  if  it  is  
$6,500?  
 
3.)  Buy  Coastal,  Inc.,  imposes  a  payback  cutoff  of  three  years  for  its  international  investment  
projects.  If  the  company  has  the  following  two  projects  available,  should  it  accept  either  of  
them?  
 
Year   Cash  Flow  (A)   Cash  Flow  (B)  

0   -­‐$40,000   -­‐$60,000  

1   19,000   14,000  

2   25,000   17,000  

3   18,000   24,000  

4   6,000   270,000  

 
4.)  An  investment  project  has  annual  cash  inflows  of  $4,200,  $5,300,  $6,100,  and  $7,400,  and  a  
discount  rate  of  14  percent.  What  is  the  discounted  payback  period  for  these  cash  flows  if  the  
initial  cost  is  $7,000?  What  if  the  initial  cost  is  $10,000?  What  if  it  is  $13,000?  
 
5.)  An  investment  project  costs  $15,000  and  has  annual  cash  flows  of  $4,300  for  six  years.  What  
is  the  discounted  payback  period  if  the  discount  rate  is  zero  percent?  What  if  the  discount  rate  is  
5  percent?  If  it  is  19  percent?  
 
7.)  A  firm  evaluates  all  of  its  projects  by  applying  the  IRR  rule.  If  the  required  return  is  16  
percent,  should  the  firm  accept  the  following  project?  
 
Year   Cash  Flow  

0   -­‐$34,000  
 1   16,000  

2   18,000  

3   15,000  

 
8.)  For  the  cash  flows  in  the  previous  problem,  suppose  the  firm  uses  the  NPV  decision  rule.  At  a  
required  return  of  11  percent,  should  the  firm  accept  this  project?  What  if  the  required  return  
was  30  percent?  
 
9.)  A  project  that  provides  annual  cash  flows  of  $28,500  for  nine  years  costs  $138,000  today.  Is  
this  a  good  project  if  the  required  return  is  8  percent?  What  if  it’s  20  percent?  At  what  discount  
rate  would  you  be  indifferent  between  accepting  the  project  and  rejecting  it?  
 
10.)  What  is  the  IRR  of  the  following  set  of  cash  flows?  
 
Year   Cash  Flow  

0   -­‐$19,500  

1   9,800  

2   10,300  

3   8,600  

 
11.)  For  the  cash  flows  in  the  previous  problem,  what  is  the  NPV  at  a  discount  rate  of  zero  
percent?  What  if  the  discount  rate  is  10  percent?  If  it  is  20  percent?  If  it  is  30  percent?  
 
12.)  Mahjong,  Inc.,  has  identified  the  following  two  mutually  exclusive  projects:  
 
Year   Cash  Flow  (A)   Cash  Flow  (B)  

0   -­‐$43,000   -­‐$43,000  

1   23,000   7,000  

2   17,900   13,800  

3   12,400   24,000  

4   9,400   26,000  

 
a.  What  is  the  IRR  for  each  of  these  projects?  Using  the  IRR  decision  rule,  which  project  should  
the  company  accept?  Is  this  decision  necessarily  correct?  
 
b.  If  the  required  return  is  11  percent,  what  is  the  NPV  for  each  of  these  projects?  Which  project  
will  the  company  choose  if  it  applies  the  NPV  decision  rule?  
 
c.  Over  what  range  of  discount  rates  would  the  company  choose  project  A?  Project  B?  At  what  
discount  rate  would  the  company  be  indifferent  between  these  two  projects?  Explain.  
  
13.)  Consider  the  following  two  mutually  exclusive  projects:  
Year   Cash  Flow  (X)   Cash  Flow  (Y)  

0   -­‐$15,000   -­‐$15,000  

1   8,150   7,700  

2   5,050   5,150  

3   6,800   7,250  

 
Sketch  the  NPV  profiles  for  X  and  Y  over  a  range  of  discount  rates  from  zero  to  25  percent.  What  
is  the  crossover  rate  for  these  two  projects?  
 
14.)  Sweet  Petroleum,  Inc.,  is  trying  to  evaluate  a  generation  project  with  the  following  cash  fl  
ows:  
 
Year   Cash  Flow  

0   -­‐$45,000,000  

1   78,000,000  

2   -­‐14,000,000  

 
a.  If  the  company  requires  a  12  percent  return  on  its  investments,  should  it  accept  this  project?  
Why?  
 
b.  Compute  the  IRR  for  this  project.  How  many  IRRs  are  there?  Using  the  IRR  decision  rule,  
should  the  company  accept  the  project?  What’s  going  on  here?  
 
15.)  What  is  the  profitability  index  for  the  following  set  of  cash  flows  if  the  relevant  discount  
rate  is  10  percent?  What  if  the  discount  rate  is  15  percent?  If  it  is  22  percent?  
 
Year   Cash  Flow  

0   -­‐$14,000  

1   7,300  

2   6,900  

3   5,700  

16.)  The  Shine  On  Computer  Corporation  is  trying  to  choose  between  the  following  two  
mutually  exclusive  design  projects:  
 
 
 Year   Cash  Flow  (I)   Cash  Flow  (II)  

0   -­‐$53,000   -­‐$16,000  

1   27,000   9,100  

2   27,000   9,100  

3   27,000   9,100  

 
a.  If  the  required  return  is  10  percent  and  the  company  applies  the  profitability  index  decision  
rule,  which  project  should  the  firm  accept?  
 
b.  If  the  company  applies  the  NPV  decision  rule,  which  project  should  it  take?  
 
c.  Explain  why  your  answers  in  (a)  and  (b)  are  different.  
 
17.)  Consider  the  following  two  mutually  exclusive  projects:  
 
Year   Cash  Flow  (I)   Cash  Flow  (II)  

0   -­‐$300,000   -­‐$40,000  

1   20,000   19,000  

2   50,000   12,000  

3   50,000   18,000  

4   390,000   10,500  

 
Whichever  project  you  choose,  if  any,  you  require  a  15  percent  return  on  your  investment.  
 
a.  If  you  apply  the  payback  criterion,  which  investment  will  you  choose?  Why?  
 
b.  If  you  apply  the  discounted  payback  criterion,  which  investment  will  you  choose?  Why?  
 
c.  If  you  apply  the  NPV  criterion,  which  investment  will  you  choose?  Why?  
 
d.  If  you  apply  the  IRR  criterion,  which  investment  will  you  choose?  Why?  
 
e.  If  you  apply  the  profitability  index  criterion,  which  investment  will  you  choose?  Why?  
 
f.  Based  on  your  answers  in  (a)  through  (e),  which  project  will  you  finally  choose?  Why?  
 
18.)  An  investment  has  an  installed  cost  of  $684,680.  The  cash  flows  over  the  four-­‐year  life  of  
the  investment  are  projected  to  be  $263,279,  $294,060,  $227,604,  and  $174,356.  If  the  discount  
rate  is  zero,  what  is  the  NPV?  If  the  discount  rate  is  infinite,  what  is  the  NPV?  At  what  discount  
rate  is  the  NPV  just  equal  to  zero?  Sketch  the  NPV  profile  for  this  investment  based  on  these  
three  points.  
 
25.)  The  Yurdone  Corporation  wants  to  set  up  a  private  cemetery  business.  According  to  the  
CFO,  Barry  M.  Deep,  business  is  “looking  up.”  As  a  result,  the  cemetery  project  will  provide  a  net  
cash  inflow  of  $85,000  for  the  firm  during  the  first  year,  and  the  cash  flows  are  projected  to  
grow  at  a  rate  of  6  percent  per  year  forever.  The  project  requires  an  initial  investment  of  
$1,400,000.  
 
a.  If  Yurdone  requires  a  13  percent  return  on  such  undertakings,  should  the  cemetery  business  
be  started?  
 
b.  The  company  is  somewhat  unsure  about  the  assumption  of  a  6  percent  growth  rate  in  its  cash  
flows.  At  what  constant  growth  rate  would  the  company  just  break  even  if  it  still  required  a  13  
percent  return  on  investment?  
 
26.)  A  project  has  the  following  cash  flows:  
 
Year   Cash  Flow  

0   $58,000  

1   -­‐34,000  

2   -­‐45,000  

 
What  is  the  IRR  for  this  project?  If  the  required  return  is  12  percent,  should  the  firm  accept  the  
project?  What  is  the  NPV  of  this  project?  What  is  the  NPV  of  the  project  if  the  required  return  is  
0  percent?  24  percent?  What  is  going  on  here?  Sketch  the  NPV  profile  to  help  you  with  your  
answer.  
 
27.)  McKeekin  Corp.  has  a  project  with  the  following  cash  flows:  
 
Year   Cash  Flow  

0   $20,000  

1   -­‐26,000  

2   13,000  

What  is  the  IRR  of  the  project?  What  is  happening  here?  

 
Chapter  10  Homework  
 
1.  Parker  &  Stone,  Inc.,  is  looking  at  setting  up  a  new  manufacturing  plant  in  South  Park  to  
produce  garden  tools.  The  company  bought  some  land  six  years  ago  for  $6  million  in  
anticipation  of  using  it  as  a  warehouse  and  distribution  site,  but  the  company  has  since  decided  
to  rent  these  facilities  from  a  competitor.  If  the  land  were  sold  today,  the  company  would  net  
$6.4  million.  The  company  wants  to  build  its  new  manufacturing  plant  on  this  land;  the  plant  
will  cost  $14.2  million  to  build,  and  the  site  requires  $890,000  worth  of  grading  before  it  is  
suitable  for  construction.  What  is  the  proper  cash  flow  amount  to  use  as  the  initial  investment  in  
fixed  assets  when  evaluating  in  this  project?  Why?  

2.  Winnebagel  Corp  currently  sells  30,000  motor  homes  per  year  at  $53,000  each,  and  12,000  
luxury  motor  coaches  per  year  at  $91,000  each.  The  company  wants  to  introduce  a  new  portable  
camper  to  fill  out  its  product  line;  it  hopes  to  sell  19,000  of  these  campers  per  year  at  $13,000  
each.  An  independent  consultant  has  determined  that  if  Winnebagel  introduces  new  campers,  it  
should  boost  the  sales  of  its  existing  motor  homes  by  4,500  units  per  year,  and  reduce  the  sale  
of  its  motor  coaches  by  900  units  per  year.  What  is  the  amount  to  use  as  the  annual  sales  figure  
when  evaluating  the  project?  Why?  

3.  A  proposed  new  investment  has  projected  sales  of  $830,000.  Variable  costs  are  60%  of  sales  
and  fixed  costs  are  $181,000;  depreciation  is  $77,000.  Prepare  a  pro  forma  income  statement  
assuming  a  tax  rate  of  35%.  What  is  the  projected  net  income?    

9.  Summer  Tyne,  Inc.,  is  considering  a  new  three-­‐year  expansion  project  that  requires  an  initial  
fixed  asset  investment  of  $3.9  million.  The  fixed  asset  will  be  depreciated  straight-­‐line  to  zero  
over  its  three-­‐year  tax  life,  after  which  time  it  will  be  worthless.  The  project  is  estimate  to  
generate  $2,650,000  in  annual  sales,  with  costs  of  $840,000.  If  the  tax  rate  is  35%,  what  is  the  
OCF  for  this  project?  

10.  In  the  previous  problem,  suppose  the  required  return  on  the  project  is  12%.  What  is  the  
project’s  NPV?  

11.  In  the  previous  problem,  suppose  the  project  requires  an  initial  investment  in  net  working  
capital  of  $300,000,  and  the  fixed  asset  will  have  a  market  value  of  $210,000  at  the  end  of  the  
project.  What  is  project’s  year  0  cash  flow?  Year  1?  Year  2?  Year  3?  What  is  the  new  NPV?