If you apply the NPV criterion, which investment will you choose? Why? If you apply the IRR criterion, which investment will you choose? Why? If you apply the profitability index criterion, which investment will you choose? Why?
Based on your answers in (a) through (e), which project will you finally choose? Why?
NPV and Discount Rates An investment has an installed cost of $412,670. The cash flows over the four-year life of the investment are projected to be $212,817, $153,408, $102,389, and $72,308. 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.
NPV and the Profitability Index If we define the NPV index as the ratio of NPV to cost, what is the relationship between this index and the profitability index?
Cash Flow Intuition A project has an initial cost of I, has a required return of R, and pays C annually for N years.
a. Find C in terms of I and N such that the project has a payback period just equal to its life.
b. Find C in terms of I, N, and R such that this is a profitable project according to the NPV decision rule.
c. Find C in terms of I, N, and R such that the project has a benefit-cost ratio of 2.
Payback and NPV An investment under consideration has a payback of seven years and a cost of $320,000. If the required return is 12 percent, what is the worst-case NPV? The best-case NPV? Explain.
Multiple IRRs This problem is useful for testing the ability of financial calculators and computer software. Consider the following cash flows. How many different IRRs are there (hint: search between 20 percent and 70 percent)? When should we take this project?
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