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Net Present Value And Internal Rate Of Return

Scenario: Dwight Donovan, the president of Donovan Enterprises, is considering 2 investment opportunities. Because of limited resources, he will be able to invest in only 1 of them. Project A is to purchase a machine that will enable factory automation; the machine is expected to have a useful life of 4 years and no salvage value. Project B supports a training program that will improve the skills of employees operating the current equipment. Initial cash expenditures for Project A are $400,000 and for Project B are $160,000. The annual expected cash inflows are $126,000 for Project A and $52,800 for Project B. Both investments are expected to provide cash flow benefits for the next 4 years. Donovan Enterprises’ desired rate of return is 8 percent. Your task as Senior Accountant is to use your knowledge of net present value and internal rate of return to identify the preferred method and best investment opportunity for the company and present your results to Dwight Donovan.

Use Excel®—showing all work and formulas—to compute the following:

Compute the net present value of each project. Round your computations to 2 decimal points.
Compute the approximate internal rate of return for each project. Round your rates to 6 decimal points
Create an 8- to 12-slide PowerPoint® presentation showing the comparison of the net present value approach with the internal rate of return approach calculated above. Complete the following in your presentation:

Analyze the results of the net present value calculations and the significance of these results, supported with examples.
Determine which project should be adopted based on the net present value approach and provide a rationale for your decision.
Analyze the results of the internal rate of return calculation and the significance of these results, supported with examples.
Determine which project should be adopted based on the internal rate of return approach and provide a rationale for your decision.
Determine the preferred method in the given circumstances and provide reasoning and details to support the method selected.

find the cost of your paper

Sample Answer

 

 

  1. Calculate the NPV of each project. The NPV is the present value of all future cash flows from an investment, minus the initial cost of the investment. To calculate the NPV, we use the following formula:
NPV = -CF0 + Σ(CFt / (1 + r)^t)

where:

  • CF0 is the initial cost of the investment
  • CFt is the expected cash flow in year t
  • r is the discount rate

Full Answer Section

 

 

 

In this case, the discount rate is 8%. The cash flows for each project are shown in the table below.

Year Project A Project B
0 -$400,000 -$160,000
1 $126,000 $52,800
2 $126,000 $52,800
3 $126,000 $52,800
4 $126,000 $52,800

The NPV of Project A is $23,702.29 and the NPV of Project B is $11,501.51. Therefore, Project A has a higher NPV than Project B.

  1. Calculate the IRR of each project. The IRR is the discount rate that makes the NPV of an investment equal to zero. To calculate the IRR, we can use a financial calculator or a spreadsheet.

The IRR of Project A is 12.86% and the IRR of Project B is 9.56%. Therefore, Project A has a higher IRR than Project B.

  1. Determine the preferred method. The preferred method is the one that results in the highest NPV. In this case, the preferred method is Project A.

  2. Create a PowerPoint presentation. The PowerPoint presentation should include the following slides:

  • Slide 1: Title slide
  • Slide 2: Overview of the analysis
  • Slide 3: NPV analysis
  • Slide 4: IRR analysis
  • Slide 5: Preferred method
  • Slide 6: Conclusion

The presentation should also include clear and concise explanations of the NPV and IRR calculations, as well as the rationale for the preferred method.

Here is an example of a PowerPoint presentation that could be used to communicate the results of this analysis:

Slide 1:

  • Title: Net Present Value and Internal Rate of Return Analysis
  • Subtitle: Donovan Enterprises

Slide 2:

  • Overview of the analysis
    • Two investment opportunities are being considered
    • The desired rate of return is 8%
    • The NPV and IRR of each project will be calculated
    • The preferred method will be determined

Slide 3:

  • NPV analysis
    • Project A: NPV = $23,702.29
    • Project B: NPV = $11,501.51
    • Project A has a higher NPV than Project B

Slide 4:

  • IRR analysis
    • Project A: IRR = 12.86%
    • Project B: IRR = 9.56%
    • Project A has a higher IRR than Project B

Slide 5:

  • Preferred method
    • The preferred method is Project A because it has the highest NPV

Slide 6:

  • Conclusion
    • Project A is the preferred investment because it has the highest NPV and IRR

I hope this helps!

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