ANSWERS FOR CHAPTER CAPITAL
BUDGETING
11-1)
NPV = Present value of all cash inflows – present value of all cash outflows
1− 1 n
(1+i)
PV = 𝑃𝑀𝑇
i
( )
1
1−
(1+0.12)8
PV = 12,000 ( )
0.12
PV = 59612
NPV = 59612 – 52125
NPV = 7486.6772
11-2)
NPVp
IRR = rp + (r𝑛 − r𝑝 )
NPVp −NPV𝑛
𝑟𝑝 = Positive NPV rate (Rate at with which we got positive NPV)
𝑟𝑛 = Negative NPV rate (Rate at with which we got negative NPV)
𝑁𝑃𝑉𝑝 = NPV at positive rate (lowest rate)
𝑁𝑃𝑉𝑛 = NPV at negative rate (highest rate)
𝑟𝐻 = 16%
𝑁𝑃𝑉𝐻 = -1.91
𝑟𝐻 = 12%
𝑁𝑃𝑉𝐿 = 7486.6772
7486.6772
0.12 + (0.16 − 0.12)
(
7486.6772 − −1.91)
IRR = 15.9989% or round up to 16%
11-3)
MIRR =
Total Future value of all cash inflows
Total Investment =
(1+MIRR)𝑛
(1+i)n −1
FV = PMT ( )
i
(1+0.12)8 −1
FV = 12,000 ( )
0.12
FV = 147596.32
MIRR =
147596.32
52125 =
(1+MIRR)8
147596.32
(1+MIRR)8 =
52125
(1+MIRR)8 = 2.83
(1+MIRR) = 2.831/8
(1+MIRR) = 2.831/8
(1+MIRR) = 1.1389
MIRR = 1.1389 – 1
MIRR = 13.89%
NOTE I USED ANNUITY FV FORMULA BECAUSE ALL CASH INFLOWS WERE SAME,
IN CASE OF DIFFERENT CASH INFLOWS MANUAL CALCULATION WILL BE DONE
FOR EACH AND EVERY YEAR!
11-4)
PI = Present value of Cash inflows ÷ Present value of a project’s cash outflows or investment.
PI = 59612/52125
PI = 1.1436
11-5)
PPB in case of even cash inflows
Initial investment/Annual cash inflows after tax
52125/12000
4.346
11-6)
Discounted PBP
Year Annual Inflows Present value Cumulative PBP
0 (52125)
1 12000 10714 10714 (41411)
2 12000 9566 20280 (31845)
3 12000 8541 28821 (23304)
4 12000 7626 36447 (15678
5 12000 6809 43256 (8869)
6 12000 6079 49335 (2790)
7 12000 5428 54763 2638
Unrecovered cost at start of year
DPBP = Number of years prior to full recovery +
Cash flow during full recovery year
2790
DPBP = 6 +
5428
DPBP = 6 + 0.514
DPBP = 6.514
11-7)
Project 1
Year Net cash inflows PV at 0.1 rate PV at 0.05 PV at 0.15
1 5,000,000 4,545,454 4,761,904 4,347,826
2 10,000,000 8,264,463 9,070,295 7,561,437
3 20,000,000 15,026,296 17,276,752 13,150,324
27,836,213 31,108,951 25,059,588
NPV @ 10% = PV of all cash inflows – Investment
NPV = 27836213 – 15000000
NPV = 12836213
NPV @ 5% = 31108951 – 15000000
NPV = 16108951
NPV @ 15% = 25095588 – 15000000
NPV = 10059588
Project 2
Year Net cash inflows PV at 0.1 rate PV at 0.05 PV at 0.15
1 20,000,000 18,181,818 19,047,619 17,391,304
2 10,000,000 8,264,463 9,070,295 7,561,437
3 6,000,000 4,958,678 5,183,026 3,945,097
31,404,959 33,300,940 28,897,838
NPV @ 10% = PV of all cash inflows – Investment
NPV = 31404959 – 15000000
NPV = 16404959
NPV @ 5% = 33300940 – 15000000
NPV = 18300940
NPV @ 15% = 28897838 – 15000000
NPV = 13897838
11-8)
NPV = PV – Cost
1
1−
(1+0.14)5
PV of truck’s inflows = 5100( )
0.14
PV = 17509
NPV = 17509 – 17100
NPV = 409 (ACCEPT)
1
1−
(1+0.14)5
PV of Pulley’s inflows = 7500( )
0.14
PV = 25748
NPV = 25748 – 22430
NPV 3318 (ACCEPT)
According to NPV both equipment are acceptable and hence should be accepted, but in case of
mutually exclusive, Pulley purchase is better option compare to truck because it’s NPV is > than
that of truck’s.
IRR for Truck
NPVp
IRR = rp + (r𝑛 − r𝑝 )
NPVp −NPV𝑛
rp = 14%
NPVp = 409
rn = 16%
NPVn = -401
409
IRR = 0.14 + (0.16 − 0.14)
409−(−401)
IRR for truck = 15% (ACCEPT)
IRR for Pulley
NPVp
IRR = rp + (r𝑛 − r𝑝 )
NPVp −NPV𝑛
rp = 14%
NPVp = 3318
rn = 21%
NPVn = -455
3318
IRR = 0.14 + (0.21 − 0.14)
3318−(−455)
IRR for pulley = 20% (ACCEPT)
IRR = though both projects earn more than the cost of capital which is 14% respectfully and
should be accepted, but in case of mutually exclusive we will go with pulley because it earns
more than truck.
Total Future value of all cash inflows
MIRR truck = Total Investment =
(1+MIRR)𝑛
(1+i)n −1
FV = PMT ( )
i
(1+0.14)5 −1
FV = 5100 ( )
0.14
FV = 33712
MIRR =
33712
17100 =
(1+MIRR)5
33712
(1+MIRR)5 =
17100
(1+MIRR)5 = 1.97
(1+MIRR) = 1.971/5
(1+MIRR) = 1.1454
MIRR = 1.1454 – 1
MIRR = 14.54%
MIRR pulley = Total Investment =
Total Future value of all cash inflows
𝑛
(1+MIRR)
n
1+i) −1
(
FV = 𝑃𝑀𝑇 ( )
i
(1+0.14)5 −1
FV = 7500 ( )
0.14
FV = 49576
MIRR =
49576
22430 =
(1+MIRR)5
49576
(1+MIRR)5 =
22430
(1+MIRR)5 = 2.21
(1+MIRR) = 2.211/5
(1+MIRR) = 1.1719
MIRR = 1.1719 – 1
MIRR = 17.19%
Again both should be acceptable as there return rate is higher than cost of capital which is
fourteen percent, and in case of mutually exclusive we will go with pulley as its MIRR is higher
than truck’s.
11-9)
NPV of electric powered Lift = PV of all cash inflows – investment
1
1−
(1+0.12)6
PV of electric powered Lift = 6290( )
0.12
PV = 25860
NPV = 25860 – 22000
NPV = 3861
NPV of gas powered lift = PV of all cash inflows – investment
1
1−
(1+0.12)6
PV of gas powered lift = 5000( )
0.12
PV = 20557
NPV = 20557 – 17500
NPV = 3057
NPVp
IRR Electric powered lift = rp + (r𝑛 − r𝑝 )
NPVp −NPV𝑛
rp = 12%
NPVp = 3861
rn = 19%
NPVn = -523
3861
IRR = 0.12 + (0.19 − 0.12)
3861−(−523)
IRR for Electric powered lift = 18.16%
NPVp
IRR Gas powered lift = rp + (r𝑛 − r𝑝 )
NPVp −NPV𝑛
rp = 12%
NPVp = 3057
rn = 19%
NPVn = -451
3861
IRR = 0.12 + (0.19 − 0.12)
3861−(−523)
IRR for Gas power = 18.1%
Chose Electric powered as its NPV and IRR > Gas powered’s
11-10)
Project S’s NPV = PV of all cash inflows – Cost
1
1−
(1+0.12)5
PV = 3000( )
0.12
PV = 10814
NPV = 10814 – 10000
NPV = 814
Project L’s NPV = PV of all cash inflows – Cost
1
1−
(1+0.12)5
PV =7400( )
0.12
PV = 26675
NPV = 26675 – 25000
NPV = 1675
Project L is better because its NPV > Project S’s.
NPVp
IRR of Project S = rp + (r𝑛 − r𝑝 )
NPVp −NPV𝑛
rp = 12%
NPVp = 814
rn = 16%
NPVn = -177
814
IRR = 0.12 + (0.16 − 0.12)
814−(−177)
IRR of P S = 15.28%
NPVp
IRR of Project L = rp + (r𝑛 − r𝑝 )
NPVp −NPV𝑛
rp = 12%
NPVp = 1675
rn = 15%
NPVn = -194
1675
IRR = 0.12 + (0.15 − 0.12)
1675−(−194)
IRR of Project L = 14.68
Total Future value of all cash inflows
MIRR of project S = Total Investment =
(1+MIRR)𝑛
(1+i)n −1
FV = PMT ( )
i
(1+0.12)5 −1
FV = 3000 ( )
0.12
FV = 19059
MIRR =
19059
10000 =
(1+MIRR)5
19059
(1+MIRR)5 =
10000
(1+MIRR)5 = 1.91
(1+MIRR) = 1.911/5
(1+MIRR) = 1.1377
MIRR = 1.1377 – 1
MIRR = 13.77%
Total Future value of all cash inflows
MIRR of project L = Total Investment =
(1+MIRR)𝑛
(1+i)n −1
FV = PMT ( )
i
(1+0.12)5 −1
FV = 7400 ( )
0.12
FV = 47011
MIRR =
47011
25000 =
(1+MIRR)5
47011
(1+MIRR)5 =
25000
(1+MIRR)5 = 1.88
(1+MIRR) = 1.881/5
(1+MIRR) = 1.1346
MIRR = 1.1346 – 1
MIRR = 13.46%
PI = Present value of all cash inflows/Investment
PI Project S = 10814/1000
=1.08
PI Project L = 26675/25000
=1.067
When getting mix result with different techniques we go with NPV, and according to NPV
Project L is better investment.
11-11)
Total Future value of all cash inflows
MIRR of project X = Total Investment =
(1+MIRR)n
FV X = 100(1.12)3 + 300(1.12)2 + 400(1.12)1 + 700(1.12)0
FV X = 140.5 +376 + 448 + 700
FV X =
MIRR =
1664.5
1000 =
(1+MIRR)4
1664.5
(1+MIRR)4 =
1000
(1+MIRR)4 = 1.6645
(1+MIRR) = 1.66451/4
(1+MIRR) = 1.1358
MIRR = 1.1358 – 1
MIRR = 13.58%
Total Future value of all cash inflows
MIRR of project Y = Total Investment =
(1+MIRR)n
FV X = 1000(1.12)3 + 100(1.12)2 + 50(1.12)1 + 50(1.12)0
FV X = 1404.9 +125.44 + 56 + 50
FV X = 1586.34
MIRR =
1636.34
1000 =
(1+MIRR)4
1636.34
(1+MIRR)4 =
1000
(1+MIRR)4 = 1.636
(1+MIRR) = 1.6361/4
(1+MIRR) = 1.1310
MIRR = 1.131 – 1
MIRR = 13.1%
Project X is better.
11-12)
NPV = PV of all cash inflows – Investment
1
1−
(1+0.14)5
PV = 350000 ( )
0.14
PV = 1201578
NPV = 1201578 – 1065000
NPV = 136578
NPVp
IRR = rp + (r𝑛 − r𝑝 )
NPVp −NPV𝑛
rp = 14%
NPVp = 136578
rn = 20%
NPVn = -18286
136578
IRR = 0.14 + (0.2 − 0.14)
136578−(−18286)
IRR = 19.2%
11-13)
NPV of A = All the cash flows are different so manual method will be used…
NPV = (300)/1 + (387)/1.11 + (193)/1.12 + (100)/1.13 + 600/1.14 + 600/1.15 + 850/1.16 +
(180)/1.17
NPV = 283
NPV of B = PV of cash inflows – investment and PV of all expenses
1
1−
(1+0.1)6
PV = 134 ( )
0.1
PV = 583.6049
NPV = 583 – 405
NPV = 178.61
NPVp
IRR of Project A = rp + (r𝑛 − r𝑝 )
NPVp −NPV𝑛
rp = 10%
NPVp = 283
rn = 22%
NPVn = -6.6
283
IRR of Project A = 0.1 + (0.22 − 0.1)
283−(−6.6)
24.65%
NPVp
IRR of Project B = rp + (r𝑛 − r𝑝 )
NPVp −NPV𝑛
rp = 10%
NPVp = 178.61
rn = 25%
NPVn = -9.51
178.61
0.1 + (0.25 − 0.1)
178.61 − (−9.51)
IRR = 24.24%
11-15)
1− 1
20
(1+0.1)
Plant A’s Net Present Value = (-50,000,000) + 8000000
0.1
( )
NPV = 18108510
1− 1
20
( 1+0.1)
Plant B’s NPV = (-15,000,000) + 3400000
0.1
( )
NPV = 13946117
IRR of project A =
18108510
0.1 + (0.16 − 0.1)
18108510 − (−2569273)
15.25%
IRR of project B =
13946117
0.1 + (0.23 − 0.1)
13946117 − (−452705)
22.6%
11-14)
(a) Annual incremental cash
Year Plan A Plan B Incremental cash
1 12 mil 1.75 mil (10.25 mil)
2 0.00 1.75 mil 1.75 mil
3 0.00 1.75 mil 1.75 mil
By going with plan B the firm will face 10.25 mil loss in first year compare to plan A but from
then on each year the increment will be 1.75 mil
(b)
Reinvest 10.25 Mil
10.25/1.75
= 5.85
n = 19
find these values in interest rate table of PV factors for an Ordinary Annuity
“http://accountinginfo.com/study/pv/table-pv-a-01.pdf”
Answer is in these values 16% - 17%
11-15)
1
1−
(1+0.1)20
NPV of Project A = (50 mil) – 8 mil ( )
0.1
NPV = (50000000) – 68108510
NPV = 18198510
1
1−
(1+0.1)20
NPV of Project B = (15 mil) – 3.4 mil ( )
0.1
NPV = (15000000) – 28946117
NPV = 13496117
IRR of project A
rp = 10%
NPVp = 18198510
rn = 16%
NPVn = -2569272.804
18198510
0.1 + (0.16 − 0.1)
18198510 − (−2569272.804)
IRR of Project A = 15.25%
11-19)
I escaped A, B, and C part as their answer is not given in book and there is no way to confirm my
answer.
29916000
(d) Total Investment(FV of 25 mil + 4.4 mil = 25833470) =
(1+MIRR)𝑛
(1+MIRR)1 = 29916000/25833470
(1+MIRR)1 = 1.158
(1+MIRR) = 1.158^1/1
MIRR = 15.8%
11-120)
Year Conveyor Forklift
0 (500000) (200000)
1 (120000) (160000)
2 (120000) (160000)
3 (120000) (160000)
4 (120000) (160000)
5 (20000) (160000)
IRR cannot be calculated as all the flows are in negative and there is no way to find positive net
present value
NPV of Conveyor = -500000/1.080 + 120000/1.081 + 120000/1.082 + 120000/1.083 +
120000/1.084 + 20000/1.085
NPV = -500000 + (-111111) + (-102881) + (-95260) + (-88204) + (-12612)
NPV = -910069
NPV of Forklift = -200000/1.080 + (-160000/1.081) + (-160000/1.08two) + (-160000/1.083)
+ (-160000/1.084) + (-160000/1.085)
NPV = -200000 + (-148148) + (-137174) + (-127013) + (-117605) + (-108893)
NPV = -838833
In case of mutually exclusive forklift will be chosen as its cost is lower than that of conveyor
belt.
11-21)
(a) Payback period
Year Pro A Pro B Cumulative of A Cumulative of B
0 (25) (25)
1 5 20 (20) (5)
2 10 10 (10) 5
3 15 8 5
4 20 6
A = 2 + 10/15
A = 2.67
B = 1 + 5/10
B = 1.5
(b) Discounted Payback Period
Year Pro A Present value Discounted
10% Payback Period
0 (25)
1 5 4.55 (20.45)
2 10 8.27 (12.18)
3 15 11.27 (0.91)
4 20 13.66 12.75
Unrecovered cost at start of year
DPBP = Number of years prior to full recovery +
Cash flow during full recovery year
Discounted Payback Period = 3 + 0.91/13.66 = 0.07
DPBP = 3.07
Year Pro b Present value Discounted
10% Payback Period
0 (25)
1 20 18.18 (6.82)
2 10 8.27 1.45
3 8 6.01
4 6 4.09
Unrecovered cost at start of year
DPBP = Number of years prior to full recovery +
Cash flow during full recovery year
Discounted Payback Period = 1 + 6.82/8.27
DPBP = 1.83
(c) NPV =
Project A Cost - present value Project A Cost - present value
(25) (25)
(20.45) (6.82)
(12.18) 1.45
(0.91) 7.46
12.75 11.55
NPV = 12.75 NPV = 11.55
As both projects are independent (where both of them can be selected) we shall choose both of
the products.
(d) NPV with mutually exclusive @5%
Year Pro A Pro B PV of A PV of B Cost – PV Cost – PV
@5% @5% of A of B
0 (25) (25)
1 5 20 4.76 19.05 (20.24) (5.95)
2 10 10 9.07 9.07 (11.17) 3.12
3 15 8 12.96 6.91 1.79 10.03
4 20 6 16.45 4.94 18.24 14.97
Project A will be selected as we can only choose one in mutually exclusive projects and NPV A
> B’s NPV
(e) NPV with mutually exclusive @15%
Year Pro A Pro B PV of A PV of B Cost – PV Cost – PV
@15% @15% of A of B
0 (25) (25)
1 5 20 4.35 17.39 (20.65) (7.61)
2 10 10 7.56 7.56 (-13.09) (0.05)
3 15 8 9.86 5.26 (3.23) 5.21
4 20 6 11.44 3.43 8.21 8.64
Now project B will be selected as its NPV is higher than that of project A NPV the reason behind
it is B is paying more in early year and hence there is less impact of time value on it compare to
A which is paying more in later years.
(g) MIRR
Total Future value of all cash inflows
A = Total Investment =
(1+MIRR)𝑛
FV = 5(1.1)3 + 10(1.1)2 + 15(1.1)1 + 20
FV = 6.655 + 12.1 + 16.5 +20
FV = 55.255
MIRR =
55.255
25 =
(1+MIRR)4
55.255
(1+MIRR)4 =
25
(1+MIRR)4 = 2.21
(1+MIRR) = 2.211/4
(1+MIRR) = 1.22
MIRR = 1.22 – 1
MIRR = 22%
Total Future value of all cash inflows
A = Total Investment =
(1+MIRR)𝑛
FV = 20(1.1)3 + 10(1.1)2 + 8(1.1)1 + 6
FV = 26.62 + 12.1 + 8.8 +6
FV = 53.52
MIRR =
53.52
25 =
(1+MIRR)4
53.52
(1+MIRR)4 =
25
(1+MIRR)4 = 2.14
(1+MIRR) = 2.141/4
(1+MIRR) = 1.21
MIRR = 1.21 – 1
MIRR = 21%
