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Capital Budgeting Techniques: Problems

The document discusses three capital budgeting problems involving calculating payback period, book rate of return, and net present value (NPV) using discounted cash flows. For the first problem, the payback period is 3.15 years, the book rate of return is 33.3%, and the NPV is $130,530. For the second problem, the annual net cash flows are $26,200, the NPV is negative $11,970, and the internal rate of return is between 10-12%. For the third problem, the payback period is 3 years, the book rate of return is 20%, and the NPV is $6,930.

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2K views

Capital Budgeting Techniques: Problems

The document discusses three capital budgeting problems involving calculating payback period, book rate of return, and net present value (NPV) using discounted cash flows. For the first problem, the payback period is 3.15 years, the book rate of return is 33.3%, and the NPV is $130,530. For the second problem, the annual net cash flows are $26,200, the NPV is negative $11,970, and the internal rate of return is between 10-12%. For the third problem, the payback period is 3 years, the book rate of return is 20%, and the NPV is $6,930.

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ripplerage
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© © All Rights Reserved
We take content rights seriously. If you suspect this is your content, claim it here.
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Capital Budgeting Techniques

Problems

1. LOCKDOWN Co has an investment opportunity costing P300,000 that is


expected to yield the following cash flows over the next six years:

Year One P75,000


Year Two P90,000
Year Three P115,000
Year Four P130,000
Year Five P100,000
Year Six P90,000

a. Find the payback period of the investment.

b. Find the book rate of return of the investment.

c. Find the NPV of the investment at a cutoff rate of 10%.

-------
NPV 130,530
======

2. ECQ CO. is considering the purchase of a machine. Data are as follows:

Cost P160,000
Useful life 10 years
Annual straight-line depreciation P ???
Expected annual savings in cash
operation costs P 33,000

ECQ's cutoff rate is 12% and its tax rate is 40%.

a. Compute the annual net cash flows for the investment.

b. Compute the NPV of the project.

c. Compute the IRR of the project.

3. GCQ CORP. has an investment opportunity costing P180,000 that is


expected to yield the following cash flows over the next five years:

Year One P 30,000


Year Two P 60,000
Year Three P 90,000
Year Four P 60,000
Year Five P 30,000

a. Find the payback period of the investment.

b. Find the book rate of return of the investment.

c. Find the NPV of the investment at a cutoff rate of 12%.

SOLUTION: Prob. 1

a. Payback period: 3.15 years (75,000 + 90,000 + 115,000 + .15 x 130,000)

b. Book rate of return: 33.3%

Average return: P100,000 (P600,000 total / 6 years)


Depreciation: 50,000 (P30,000 / 6 years)
-------
Average income P50,000

Average investment: P300,000 / 2 = P150,000

Book rate of return = P50,000 / 150,000 = 33.3%

c. NPV: P130,530

Cash Factor PV
------ ------ ------
1 75,000 .909 68,175
2 90,000 .826 74,340
3 115,000 .751 86,365
4 130,000 .683 88,790
5 100,000 .621 62,100
6 90,000 .564 50,760
-------
430,530
Investment 300,000

SOLUTION: Prob. 2

a. Annual net cash flows: P26,200 [P33,000 pretax - 40% x (P33,000 -


P16,000 depreciation)]

b. NPV: Negative P11,970 [(P26,200 x 5.650) - P160,000]

c. IRR: between 10% and 12% [factor of 6.107 (160,000/26,200) is between


6.145 and 5.650]

SOLUTION: Prob. 3

a. Payback period: 3.0 years (30,000 + 60,000 + 90,000)

b. Book rate of return: 20%

Average return: P54,000 (P270,000 total / 5 years)


Depreciation: 36,000 (P180,000 / 5 years)
------
Average income P18,000

Average investment: P180,000 / 2 = P90,000

Book rate of return = P18,000 / P90,000 = 20%

c. NPV: P6,930

Cash Factor PV
------ ------ ------
1 30,000 .893 26,790
2 60,000 .797 47,820
3 90,000 .712 64,080
4 60,000 .636 38,160
5 30,000 .567 17,010
-------
193,860
Investment 180,000
-------
NPV 13,860
======

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