Question 2 20 Marks JK Products is evaluating an investment in either of two competing projects that...

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Finance

Question 2 20 Marks
JK Products is evaluating an investment in either of twocompeting projects that will allow the company to eliminate aproduction bottleneck and meet the growing demand for its products.The company’s engineering department narrowed the alternatives downto two –MD and HD. A project specialist developed the followingestimates of cash flows for MD and HD over the relevant six-yeartime horizon. The company has an 11% required return and viewsthese projects as equally risky.
Project MD Project HD
Initial Outflow (CF0) R670,000 R940,000
Year (t) Cash Inflows (CFt)
1 R250,000 170,000
2 200,000 180,000
3 170,000 200,000
4 150,000 250,000
5 130,000 300,000
6 130,000 550,000
Required:
2.1.Calculate the net present value (NPV) of each project, assessits acceptability and indicate which
project is best, using NPV.
2.2. Calculate the internal rate (IRR) of each project, assess itsacceptability and indicate which
project is best, using IRR.
2.3.Calculate the profitability index (PI) of each project, assessits acceptability, and indicate which
project is best, using PI.
2.4.Draw the NPV profile project SQ and HT on the same set of axesand use this diagram to explain
why the NPV and the IRR show differences for these two mutuallyexclusive projects. Discuss
this difference in terms of both the “scale problem” and the“timing problem”.
2.5.Which of the two mutually exclusive projects would yourecommend that JK Products undertake?
Why?

Answer & Explanation Solved by verified expert

3.6 Ratings (323 Votes)

21 NPVOn calculator CF ModeProject MDCFo 670000C01 250000F01 1C02 200000F02 1C03 170000F03 1C04 150000F04 1C05 130000F05 2NPVI 11CPT NPV 8731387Project HDCFo 940000C01 170000F01 1C02 180000F02 1C03 200000F03 1C04 250000F04 1C05 300000F05 1C06 550000F06 1NPVI 11CPT NPV 14225407 Based on NVP we can accept both the projects as both havepositive NPV but the best will be See Answer

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Question 2 20 MarksJK Products is evaluating an investment in either of twocompeting projects that will allow the company to eliminate aproduction bottleneck and meet the growing demand for its products.The company’s engineering department narrowed the alternatives downto two –MD and HD. A project specialist developed the followingestimates of cash flows for MD and HD over the relevant six-yeartime horizon. The company has an 11% required return and viewsthese projects as equally risky.Project MD Project HDInitial Outflow (CF0) R670,000 R940,000Year (t) Cash Inflows (CFt)1 R250,000 170,0002 200,000 180,0003 170,000 200,0004 150,000 250,0005 130,000 300,0006 130,000 550,000Required:2.1.Calculate the net present value (NPV) of each project, assessits acceptability and indicate whichproject is best, using NPV.2.2. Calculate the internal rate (IRR) of each project, assess itsacceptability and indicate whichproject is best, using IRR.2.3.Calculate the profitability index (PI) of each project, assessits acceptability, and indicate whichproject is best, using PI.2.4.Draw the NPV profile project SQ and HT on the same set of axesand use this diagram to explainwhy the NPV and the IRR show differences for these two mutuallyexclusive projects. Discussthis difference in terms of both the “scale problem” and the“timing problem”.2.5.Which of the two mutually exclusive projects would yourecommend that JK Products undertake?Why?