Question 1 · Section A · Syllabus D12 marks
Mutually exclusive projects
Orwell Co must choose one of two mutually exclusive projects, X and Y. Their cash flows are shown below; the time 0 figure is the investment, and the inflows arise at the end of each year.
| Project | Time 0 ($) | Year 1 ($) | Year 2 ($) | Year 3 ($) | Year 4 ($) | Year 5 ($) |
|---|---|---|---|---|---|---|
| X | (250,000) | 100,000 | 95,000 | 90,000 | 60,000 | 45,000 |
| Y | (710,000) | 165,000 | 190,000 | 215,000 | 215,000 | 220,000 |
Project X's internal rate of return is about 20% and project Y's about 12%. Orwell Co's cost of capital is 8%, and it aims to maximise shareholder wealth. Ignore taxation and inflation. Each year's cash flow is discounted with its own factor from the present value table.
What is the net present value of the project Orwell Co should choose, to the nearest $? (2 marks)