Homework (Ch 8 & 9)

8-1 What is capital budgeting? Do all capital expenditures involve fixed assets?
Explain.

8-4 Differentiate between the members of each of the following pairs of capital
budgeting terms a) independent versus mutually exclusive projects; b) unlimited
funds versus capital rationing c) accept-reject versus ranking approaches; and d)
conventional versus non-conventional cash flow patterns.

8-5 Why is it important to evaluate capital budgeting projects on the basis of

incremental cash flows?

E8-3 Iridium Corp. has spent $3.5 billion over the past decade developing a satellite
based telecommunication system. It is currently trying to decide whether to spend
an additional $350 million on the project. The firm expects that this outlay will
finish the project and will generate cash flow of $15 million per year over the next 5
years. A competitor has offered $450 million for the satellites already in orbit.
Classify the firm's outlays as sunk costs or opportunity costs, and specify the
relevant cash flows.

9-1 What is the payback period? How is it calculated? What weaknesses are
commonly associated with the use of the payback period to evaluate a proposed
investment?

9-2 How is the net present value (NPV) calculated for a project with a conventional
cash flow pattern? What are the acceptance criteria for NPV?

9-3 What is the internal rate of return (IRR) on an investment? How is it

determined? What are the acceptance criteria for IRR?
P9-1 Payback period Jordan Enterprises is considering a capital expenditure that
requires an initial investment of $42,000 and returns after-tax cash inflows of $7,000
per year for 10 years. The firm has a maximum acceptable payback period of 8
years.
a) Determine the payback period for this project
b) Should the company accept the project? Why or why not?

P9-4 NPV Calculate the net present value (NPV) for the following 20-year projects.
Comment on the acceptability of each. Assume that the firm has an opportunity cost
of 14%.
a) Initial investment is $10,000; cash inflows are $2,000 per year
b) Initial investment is $25,000; cash inflows are $3,000 per year
c) Initial investment is $30,000; cash inflows are $5,000 per year

P9-6 Net present value- Independent projects Using a 14% cost of capital, calculate
the net present value for each of the independent projects shown in the table and
indicate whether each is acceptable.

Project A
Initial Investment $26,000
Year 1 4000
Year 2 4000
Year 3 4000
Year 4 4000
Year 5 4000
Year 6 4000
Year 7 4000
Year 8 4000
Year 9 4000
Year 10 4000
Project B
Initial $500,000
Year 1 100,000
Year 2 120,000
Year 3 140,000
Year 4 160,000
Year 5 180,000
Year 6 200,000

P9-12 IRR-Mutual exclusive projects Bell Manufacturing is attempting to choose

the better of two mutually exclusive projects for expanding the firm's warehouse
capacity. The relevant cash flows for the projects are shown in the following table.
The firm's cost of capital is 15%.

Project X
Initial investment 500,000
Year 1 100,000
Year 2 120,000
Year 3 150,000
Year 4 190,000
Year 5 250,000

Project Y
Initial investment 325,000
Year 1 140,000
Year 2 120,000
Year 3 95,000
Year 4 70,000
Year 5 50,000
a) Calculate the IRR to the nearest whole percent for each of the projects.
b) Assess the acceptability of each project on the basis of the IRR found in part a
c) Which project, on this basis, is preferred?

P9-15 NPV and IRR Benson Designs has prepared the following estimates for long
term project it is considering. The initial investment is $18,250 and the project is
expected to yield after-tax cash inflows of $4,000 per year for 7 years. The firm has
a 10% cost of capital

a) Determine the net present value (NPV) for the project

b) Determine the internal rate of return (IRR) for the project.
c) Would you recommend that the firm accept or reject the project? Explain your
answer.