1 (Chapter 5). Consider the following cash flows of two mutually exclusive projects for
Merced Granite, Inc.. Assume a 10% discount rate.
Year Livermore project
0
-4,000,000
1 2,400,000
2
2,000,000
3
2,000,000
Modesto project
-2,000,000
1,200,000
1,600,000
1,000,000
a. Based on the NPV, which project should be taken?
b. Based on the IRR, which project should be taken?
c. If you are using IRR, is incremental IRR appropriate in this case? If yes, please do the
analysis.
2 (Chapter 5) The treasurer of Madera Sunnyside Fruit Co. has projected cash flows of
projects A, B and C as follows (in $1000).
Year
0
1
2
A
-300
210
210
B
C
-600
-300
400
240
400
170
Assume a discount rate of 10 percent.
a. Compute the profitability index for each of the three projects.
b. Compute the NPV for each of the three projects.
c. Suppose the three projects are independent. Which project(s) should MSF accept
based on the profitability index rule?
d. Suppose the three projects are mutually exclusive. Which project should MSF
choose based on the profitability index rule? Based on NPV?
e. Suppose MSF has budget for these projects of $600,000. The projects are not
divisible. Which project(s) should MSF accept?
3 (Chapter 6) Turlock Meats, Inc. is looking at a new processing system with an installed
cost of $600,000. This cost will be depreciated straight-line to zero over the project's
five-year life, at the end of which the new system can be scrapped for $100,000. The
new processing system will save the firm $150,000 per year in pretax operating costs, and
the system requires an initial investment in net working capital of $30,000 (which must
be maintained for the five years). If the tax rate is 35% and the discount rate is 10%,
what is the NPV of the project?
4 (Chapter 6). Crash Realty must choose between two copiers, the 4GX and the 5GQ.
The 4GX costs $6000 and will last for four (4) years. The copier will require a real
aftertax cost of $600 per year including all relevant expenses. The 5GQ costs $8000 and
will last six (6) years; its real aftertax cost will be $500 per year. All cash flows occur at
the end of the year. The inflation rate is expected to be 2 percent per year, and the
nominal discount rate is 5 percent. Which copier should the company choose?
5 (Chapter 6) Optional. 2 points Extra Credit for perfect answer, showing work. (Hint:
Do this on an Excel spreadsheet.) Operating costs of an automobile in Best
Semiconductor Inc.'s (BSI) automotive pool (for its employees) are as follows for a car
in year t of its age (e.g., year 1, year 2, etc.):
t
1
1000
2
1500
3
1500
4
2000
5
3000
6
5000
Cost of auto replacement is $30,000. BSI's discount rate is 10%. Salvage value if a car
is sold at age t is:
t
1
22,000
2
3
16,000
12,000
8,500
5
5,000
6
500
What is the minimum EAC? What is the optimal age of replacement for an auto in BSI's
fleet?
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