Suppose you are a capital budgeting analyst for a company considering investments in eight projects listed in Exhibit 1. The company has determined that they can undertake each of these projects and have forecasted the project cash flows from each project in Exhibit 1.
You will rank the projects based on quantitative decisions alone. No other project characteristics are relevant in the selection, except that management has determined that projects 5 and 6 are mutually exclusive. All other projects are independent.
All the projects require the same initial investment, $5 million. Moreover, all are believed to be of the same risk class. Assume that 12% is an appropriate discount rate (some officers of the company have suggested that the discount rate should be higher).
You will be assigned to calculate the following for 2 projects: NPV, IRR, MIRR, profitability index..
Assigned #1 and #2
Calculate the crossover point - the point at which the NPVs of #1 and 2 are the same. Looking at this discount rate and at the discount rate given in the case, how might this influence your decision about which project to accept?
As a manager choosing capital budgeting projects, which set of cash flows would you prefer and why?
Exhibit 1
Project Cash Flows (dollars in thousands)
|
Project:
|
1
|
2
|
3
|
4
|
5
|
6
|
7
|
8
|
|
Initial cost:
|
-5000
|
-5000
|
-5000
|
-5000
|
-5000
|
-5000
|
-5000
|
-5000
|
|
Year
|
|
|
|
|
|
|
|
|
|
1
|
650
|
3,000
|
0
|
700
|
2500
|
-550
|
670
|
625
|
|
2
|
650
|
1400
|
0
|
900
|
1700
|
-50
|
670
|
625
|
|
3
|
650
|
840
|
0
|
915
|
900
|
60
|
670
|
625
|
|
4
|
650
|
650
|
0
|
920
|
700
|
450
|
670
|
625
|
|
5
|
650
|
390
|
0
|
925
|
500
|
800
|
670
|
625
|
|
6
|
650
|
235
|
0
|
930
|
300
|
1100
|
670
|
625
|
|
7
|
650
|
141
|
0
|
940
|
200
|
1350
|
670
|
625
|
|
8
|
650
|
85
|
0
|
950
|
150
|
1500
|
670
|
625
|
|
9
|
650
|
51
|
0
|
960
|
100
|
1625
|
670
|
625
|
|
10
|
650
|
31
|
0
|
970
|
60
|
1725
|
670
|
625
|
|
11
|
650
|
19
|
0
|
980
|
30
|
1810
|
670
|
625
|
|
12
|
650
|
11
|
0
|
990
|
20
|
1885
|
670
|
625
|
|
13
|
650
|
7
|
0
|
1000
|
10
|
1935
|
670
|
625
|
|
14
|
650
|
4
|
0
|
1100
|
5
|
1975
|
670
|
625
|
|
15
|
5000
|
3
|
22000
|
-5000
|
5
|
2000
|
670
|
5625
|