Ranking Investment Proposals:
Payback Period, Accounting Rate of Return, and Net Present ValuePresented is information pertaining to the cash flows of threemutually exclusive investment proposals:
Proposal.............................. X Y Z
Initial investment................. 98,000 98,000 98,000
Cash flow from operations
Year 1................................. 90,000 49,000 98,000
Year 2................................. 8,000 49,000
Year 3................................. 49,000 49,000
Disinvestment..................... 0 0 0
Life (years) 3 years 3 years 1 year
(a) Select the best investment proposal using the paybackperiod, the accounting rate of return on initial investment, andthe net present value criteria. Assume that the organization's costof capital is 10 percent. Round accounting rate of return fourdecimal places. Round net present value to the nearest wholenumber. Use negative signs with your answers, when appropriate.
........................................................Proposal X Proposal Y Proposal Z Best proposal
Payback period (years)................... __________ ____________________ __________
Accounting rate of return Answer... __________ ____________________ __________
Net present value........................... ____________________ __________ __________
Ranking Investment Proposals:
Payback Period, Accounting Rate of Return, and Net Present ValuePresented is information pertaining to the cash flows of threemutually exclusive investment proposals:
Proposal.............................. X Y Z
Initial investment................. 98,000 98,000 98,000
Cash flow from operations
Year 1................................. 90,000 49,000 98,000
Year 2................................. 8,000 49,000
Year 3................................. 49,000 49,000
Disinvestment..................... 0 0 0
Life (years) 3 years 3 years 1 year
(a) Select the best investment proposal using the paybackperiod, the accounting rate of return on initial investment, andthe net present value criteria. Assume that the organization's costof capital is 10 percent. Round accounting rate of return fourdecimal places. Round net present value to the nearest wholenumber. Use negative signs with your answers, when appropriate.
........................................................Proposal X Proposal Y Proposal Z Best proposal
Payback period (years)................... __________ ____________________ __________
Accounting rate of return Answer... __________ ____________________ __________
Net present value........................... ____________________ __________ __________
Related questions
Renaissance Capital Group is considering allocating a limitedamount of capital investment funds among four proposals. The amountof proposed investment, estimated income from operations, and netcash flow for each proposal are as follows:
| Investment | Year | Income from Operations | Net Cash Flow | |||
| Proposal A: | $680,000 | 1 | $ 64,000 | $ 200,000 | ||
| 2 | 64,000 | 200,000 | ||||
| 3 | 64,000 | 200,000 | ||||
| 4 | 24,000 | 160,000 | ||||
| 5 | 24,000 | 160,000 | ||||
| $240,000 | $ 920,000 | |||||
| Proposal B: | $320,000 | 1 | $ 26,000 | $ 90,000 | ||
| 2 | 26,000 | 90,000 | ||||
| 3 | 6,000 | 70,000 | ||||
| 4 | 6,000 | 70,000 | ||||
| 5 | (44,000) | 20,000 | ||||
| $ 20,000 | $340,000 | |||||
| Proposal C: | $108,000 | 1 | $ 33,400 | $ 55,000 | ||
| 2 | 31,400 | 53,000 | ||||
| 3 | 28,400 | 50,000 | ||||
| 4 | 25,400 | 47,000 | ||||
| 5 | 23,400 | 45,000 | ||||
| $142,000 | $ 250,000 | |||||
| Proposal D: | $400,000 | 1 | $100,000 | $ 180,000 | ||
| 2 | 100,000 | 180,000 | ||||
| 3 | 80,000 | 160,000 | ||||
| 4 | 20,000 | 100,000 | ||||
| 5 | 0 | 80,000 | ||||
| $300,000 | $700,000 |
The company's capital rationing policy requires a maximum cashpayback period of three years. In addition, a minimum average rateof return of 12% is required on all projects. If the precedingstandards are met, the net present value method and present valueindexes are used to rank the remaining proposals.
| Present Value of $1 at CompoundInterest | |||||
| 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 ofthe four proposals.
| Cash Payback Period | |
| Proposal A | |
| Proposal B | |
| Proposal C | |
| Proposal D |
2. Giving effect to straight-line depreciationon 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.
| Average Rate of Return | |
| Proposal A | % |
| Proposal B | % |
| Proposal C | % |
| Proposal D | % |
3. Using the following format, summarize theresults of your computations in parts (1) and (2) by placing thecalculated amounts in the first two columns on the left andindicate which proposals should be accepted for further analysisand which should be rejected. If required, round your answers toone decimal place.
| Proposal | Cash Payback Period | Average Rate of Return | Accept or Reject | |
| A | % | |||
| B | % | |||
| C | % | |||
| D | % | |||
4. For the proposals accepted for furtheranalysis in part (3), compute the net present value. Use a rate of15% and the present value of $1 table above. Round to the nearestdollar.
| Select the proposal accepted for further analysis. | ||
| Present value of net cash flow total | $ | $ |
| Less amount to be invested | $ | $ |
| Net present value | $ | $ |
5. Compute the present value index for each ofthe proposals in part (4). If required, round your answers to twodecimal places.
| Select proposal to compute Present value index. | ||
| Present value index (rounded) |
6. Rank the proposals from most attractive toleast attractive, based on the present values of net cash flowscomputed in part (4).
| Rank 1st | |
| Rank 2nd |
7. Rank the proposals from most attractive toleast attractive, based on the present value indexes computed inpart (5).
| Rank 1st | |
| Rank 2nd |
8. The present value indexes indicate thatalthough Proposal has the larger net present value, it is not asattractive as Proposal in terms of the amount of present value perdollar invested. Proposal requires the larger investment. Thus,management should use investment resources for Proposal beforeinvesting in Proposal , absent any other qualitative considerationsthat may impact the decision.
