QUESTION THREE $[25]$

Eldy Ltd has a choice of two projects to invest in$.$ The following details relate to these projects:

Project AA Project ZZ

Investment required R $85000$ R $80000$

Expected economic lifetime $6$ years $6$ years

Minimum required rate of return $12\%12\%$

Net annual cash inflows

$1$st year R $20000$ R $22000$

$2$nd year R $22000$ R $22000$

$3$rd year R $24000$ R $22000$

$4$th year R $26000$ R $22000$

$5$th year R $23000$ R $22000$

$6$th year R $21000$ R $22000$

Use the following discount factors:

Year Discount Factor

$1$

$2$

$3$

$4$

$5$

$6$

$0\mathrm{.}8929$

$0\mathrm{.}7972$

$0\mathrm{.}7118$

$0\mathrm{.}6355$

$0\mathrm{.}5674$

$0\mathrm{.}5066$

Required:

$3\mathrm{.}1$ Use the Net Present Value $($NPV$)$ method to determine which project should be

choosen. $(17)$

$3\mathrm{.}2$ Discuss the merits of using the NPV method. $(2)$

$3\mathrm{.}3$ Calculate the Payback Period for both projects. $(4)$

$3\mathrm{.}4$ Describe the advantages and disadvantages of using the payback

method. $(2)$