Question: Goga is evaluating three projects to maximize its shareholders value. The three projects A, B, and C are equally risky. The companys required cost of
Goga is evaluating three projects to maximize its shareholders value. The three projects A, B, and C are equally risky. The companys required cost of capital for evaluating Project A, B and C is 11%, 8% and 12%, respectively. The initial outlay and annual cash flows over the life of each project are shown in the table below.
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| Project A | Project B | Project C | ||||
| Initial Outlay (CF0) | (50,000.00) | 35,000.00 | 60,000.00 | |||
| Year (t) | Cash Inflows (CFt) | |||||
| 1 | 8,000.00 | 6,000.00 | 18,000.00 | |||
| 2 | 8,000.00 | 12,000.00 | 18,000.00 | |||
| 3 | 8,000.00 | 15,000.00 | 18,000.00 | |||
| 4 | 8,000.00 | 22,000.00 | 18,000.00 | |||
| 5 | 8,000.00 | - | 18,000.00 | |||
| 6 | 8,000.00 | - | - | |||
Required:
6.1. Calculate the NPV for each project over its life. Rank the projects in descending order based on NPV.
6.2. Use equivalent annuity (EAC) approach to evaluate and rank the projects in descending order based on the EAC.
6.3. Use replacement chain method to evaluate and rank the projects in descending order.
6.4. Compare and contrast your findings in parts (6.1), (6.2) and (6.3). Which project would you recommend that the company implement? Why?
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