McKnight Company is considering two different, mutually exclusive capital expenditure proposals. Project A will cost $400,000, has an expected useful life of 10 years, a salvage value of zero, and is expected to increase net annual cash flows by $70,000. Project B will cost $310,000, has an expected useful life of 10 years, a salvage value of zero, and is expected to increase net annual cash flows by $55,000. A discount rate of 9% is appropriate for both projects.

Required:
Compute the net present value and profitability index of each project.

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Respuesta :

andromache andromache · Answer 1 · 2021-05-25T03:31:15+02:00

Answer and Explanation:

The computation of the net present value and profitability index of each project is shown below;

The net present value

For the project 1

= Present value × PVIFA factor for 10 years at 9% - initial cost

= $70,000 × 6.4177 - $400,000

= $49,239

for the project 2

= Present value × PVIFA factor for 10 years at 9% - initial cost

= $55,000 × 6.4177 - $310,000

= $42,973.5

Now the profitability index is

For project 1

= ($70,000 × 6.4177) ÷ $400,000

= 1.12

And, for project 2

= ( $55,000 × 6.4177) ÷ $310,000

= 1.14