Required: 1. Compute the cash payback period for each of the four proposals. Proposal Cash Payback Period Proposal A Proposal B Proposal C Proposal D 2. Giving effect to straight-line depreciation on the investments and assuming no estimated residual value, compute the average rate of return for each of the four proposals. If required, round your answers to one decimal place. Proposal Average Rate of Return Proposal A fill in the blank 5 % Proposal B fill in the blank 6 % Proposal C fill in the blank 7 % Proposal D fill in the blank 8 % 3. Using the following format, summarize the results of your computations in parts (1) and (2) by placing the calculated amounts in the first two columns on the left and indicate which proposals should be accepted for further analysis and which should be rejected. If required, round your answers to one decimal place. Proposal Cash Payback Period Average Rate of Return Accept or Reject A B C D
Net Present Value
Net present value is the most important concept of finance. It is used to evaluate the investment and financing decisions that involve cash flows occurring over multiple periods. The difference between the present value of cash inflow and cash outflow is termed as net present value (NPV). It is used for capital budgeting and investment planning. It is also used to compare similar investment alternatives.
Investment Decision
The term investment refers to allocating money with the intention of getting positive returns in the future period. For example, an asset would be acquired with the motive of generating income by selling the asset when there is a price increase.
Factors That Complicate Capital Investment Analysis
Capital investment analysis is a way of the budgeting process that companies and the government use to evaluate the profitability of the investment that has been done for the long term. This can include the evaluation of fixed assets such as machinery, equipment, etc.
Capital Budgeting
Capital budgeting is a decision-making process whereby long-term investments is evaluated and selected based on whether such investment is worth pursuing in future or not. It plays an important role in financial decision-making as it impacts the profitability of the business in the long term. The benefits of capital budgeting may be in the form of increased revenue or reduction in cost. The capital budgeting decisions include replacing or rebuilding of the fixed assets, addition of an asset. These long-term investment decisions involve a large number of funds and are irreversible because the market for the second-hand asset may be difficult to find and will have an effect over long-time spam. A right decision can yield favorable returns on the other hand a wrong decision may have an effect on the sustainability of the firm. Capital budgeting helps businesses to understand risks that are involved in undertaking capital investment. It also enables them to choose the option which generates the best return by applying the various capital budgeting techniques.
Renaissance Capital Group is considering allocating a limited amount of capital investment funds among four proposals. The amount of proposed investment, estimated operating income, and net cash flow for each proposal are as follows:
| Proposal | Investment | Year | Operating Income | Net Cash Flow |
|---|---|---|---|---|
| Proposal A: | $500,000 | 1 | $ 45,000 | $ 145,000 |
| Proposal A: | 2 | 40,000 | 140,000 | |
| Proposal A: | 3 | 25,000 | 125,000 | |
| Proposal A: | 4 | 20,000 | 120,000 | |
| Proposal A: | 5 | 5,000 | 105,000 | |
| Total | $135,000 | $635,000 | ||
| Proposal B: | $400,000 | 1 | $ 40,000 | $ 120,000 |
| Proposal B: | 2 | 20,000 | 100,000 | |
| Proposal B: | 3 | 10,000 | 90,000 | |
| Proposal B: | 4 | 10,000 | 90,000 | |
| Proposal B: | 5 | 6,000 | 86,000 | |
| Total | $ 86,000 | $486,000 | ||
| Proposal C: | $380,000 | 1 | $ 54,000 | $ 130,000 |
| Proposal C: | 2 | 49,000 | 125,000 | |
| Proposal C: | 3 | 49,000 | 125,000 | |
| Proposal C: | 4 | 44,000 | 120,000 | |
| Proposal C: | 5 | 44,000 | 120,000 | |
| Total | $240,000 | $620,000 | ||
| Proposal D: | $675,000 | 1 | $135,000 | $270,000 |
| Proposal D: | 2 | 120,000 | 255,000 | |
| Proposal D: | 3 | 90,000 | 225,000 | |
| Proposal D: | 4 | 15,000 | 150,000 | |
| Proposal D: | 5 | 10,000 | 145,000 | |
| Total | $370,000 | $1,045,000 |
The company's capital rationing policy requires a maximum cash payback period of 3 years. In addition, a minimum average
| Year | 6% | 10% | 12% | 15% | 20% |
|---|---|---|---|---|---|
| 1 | 0.943 | 0.909 | 0.893 | 0.870 | 0.833 |
| 2 | 0.890 | 0.826 | 0.797 | 0.756 | 0.694 |
| 3 | 0.840 | 0.751 | 0.712 | 0.658 | 0.579 |
| 4 | 0.792 | 0.683 | 0.636 | 0.572 | 0.482 |
| 5 | 0.747 | 0.621 | 0.567 | 0.497 | 0.402 |
| 6 | 0.705 | 0.564 | 0.507 | 0.432 | 0.335 |
| 7 | 0.665 | 0.513 | 0.452 | 0.376 | 0.279 |
| 8 | 0.627 | 0.467 | 0.404 | 0.327 | 0.233 |
| 9 | 0.592 | 0.424 | 0.361 | 0.284 | 0.194 |
| 10 | 0.558 | 0.386 | 0.322 | 0.247 | 0.162 |
Required:
1. Compute the cash payback period for each of the four proposals.
| Proposal | Cash Payback Period |
|---|---|
| Proposal A |
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| Proposal B |
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| Proposal C |
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| Proposal D |
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2. Giving effect to straight-line depreciation on the investments and assuming no estimated residual value, compute the average rate of return for each of the four proposals. If required, round your answers to one decimal place.
| Proposal | Average Rate of Return |
|---|---|
| Proposal A | fill in the blank 5 % |
| Proposal B | fill in the blank 6 % |
| Proposal C | fill in the blank 7 % |
| Proposal D | fill in the blank 8 % |
3. Using the following format, summarize the results of your computations in parts (1) and (2) by placing the calculated amounts in the first two columns on the left and indicate which proposals should be accepted for further analysis and which should be rejected. If required, round your answers to one decimal place.
| Proposal | Cash Payback Period | Average Rate of Return | Accept or Reject |
|---|---|---|---|
| A |
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| B |
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| C |
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| D |
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4. For the proposals accepted for further analysis in part (3), compute the net present value. Use a rate of 15% and the present value of $1 table above. Round to the nearest dollar.
| Line Item Description | Answer | Answer |
|---|---|---|
| Select the proposal accepted for further analysis. |
|
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| Present value of net cash flow total | ||
| Less amount to be invested | ||
| Net present value |
5. Compute the present value index for each of the proposals in part (4). If required, round your answers to two decimal places.
| Line Item Description | Answer | Answer |
|---|---|---|
| Select proposal to compute Present value index. |
|
|
| Present value index (rounded) |
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