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You must choose between the two projects whose cash flows are shown below. The projects have the

Question:

You must choose between the two projects whose cash flows are shown below.

The projects have the same risk.

You must choose between the two projects whose cash flows

a. Compute the net present value (NPV) and the profitability index (PI) for the two projects. Assume a 10 percent discount rate.
b. Which of the projects is better according to each of the two methods?
c. What is the explanation for the differences in rankings between the NPV and PI methods of analysis?
d. Which method is correct? Why?

Net Present Value
What is NPV? The net present value is an important tool for capital budgeting decision to assess that an investment in a project is worthwhile or not? The net present value of a project is calculated before taking up the investment decision at...
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Project A Project B Now End-of-Year 1 End-of-Year 2 End-of-Year 3 -$16,000 10,500 9,100 3,000 -$3,200 3,300 1,260 600

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a Using a spreadsheet b Project B is a better choice based on the profitability index rule while pro...View the full answer


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Related Video

NPV stands for \"Net Present Value,\" which is a financial concept used to determine the value of an investment or project. It measures the difference between the present value of cash inflows and the present value of cash outflows over a given period of time, using a specific discount rate. To calculate the NPV of an investment, you need to first estimate the cash inflows and outflows associated with the investment, and then discount them back to their present values using a discount rate. The discount rate represents the cost of capital or the expected rate of return required by investors. The formula for calculating NPV is: NPV = sum of (cash inflows / (1 + discount rate)^t) - sum of (cash outflows / (1 + discount rate)^t) Where: Cash inflows: the expected cash received from the investment Cash outflows: the expected cash paid out for the investment Discount rate: the required rate of return or the cost of capital t: the time period in which the cash flow occurs If the NPV is positive, it means that the investment is expected to generate a return higher than the required rate of return or the cost of capital, and it may be considered a good investment. If the NPV is negative, it means that the investment is not expected to generate a return higher than the required rate of return or the cost of capital, and it may be considered a bad investment.

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