Dorman Automobiles, Inc. is attempting to evaluate the desirability of two prospective projects. The initial investment required along with the incremental profits expected in each case are presented below: 1. Dorman Automobiles, Inc. Is attempting to evaluate the desirability of two prospective projects. The initial investment required along with the incremental profits expected in each case are presented below:
Initial investment Project A Project B Initial investment Project A Project B
$500,000 $850,000 $ 500,000 $ 850,000
Year Profits after taxes Year Profits after taxes
1 130,000 170,000 1 130,000 170,000
2 120,000 170,000 2 120,000 170,000
3 100,000 170,000 3 100,000 170,000
4 80,000 170,000 4 80,000 170,000
5 50,000 170,000 5 50,000 170,000
(a) If the amount of the initial investment for both project A and project B equals their depreciable values, calculate the cash inflows associated with each alternative if the firm uses straight-line depreciation. (no salvage value) (A) If the amount of the initial investment for both project A and project B equals their depreciable values, calculate the cash inflows associated with each alternative if the firm uses straight-line depreciation. (No salvage value)
II. Stanley company is contemplating an investment in either of the following two projects II. Stanley company is contemplating an investment in either of the following two projects
Project A Project B Project A Project B
Initial Investment 25,000 25,000 Initial Investment 25,000 25,000
Year Cash Inflows Year Cash Inflows
1 7,000 12,000 1 7,000 12,000
2 7,000 9,000 2 7,000 9,000
3 7,000 6,000 3 7,000 6,000
4 7,000 3,000 4 7,000 3,000
5 7,000 3,000 5 7,000 3,000
Assuming the firm's cost of capital is 7 percent for each project, Assuming the firm's cost of capital is 7 percent for each project,
(a) Calculate the payback period and comment on (1) the acceptance criterion, (2) the pros and cons of the technique (A) Calculate the payback period and comment on (1) the acceptance criterion, (2) the pros and cons of the technique
(b) Find the new present value (NPV) (B) Find the new present value (NPV)
(c) Calculate benefit- cost ratio (B/C) (C) Calculate benefit-cost ratio (B / C)
(d) Find the internal rate of return (IRR) rounded to the nearest 1 percent (D) Find the internal rate of return (IRR) rounded to the nearest 1 percent
(e) Using the results of part (b), (c), and (d) above, comment on the projects with respect to their (1) acceptability and (2) ranking (E) Using the results of part (b), (c), and (d) above, comment on the projects with respect to their (1) acceptability and (2) ranking