P10-4 Personal finance: Long-term investment decisions, payback period (LG 2;

Intermediate)
a. and b.
Coffee Shop Restaurant
Annual Cumulative Annual Cumulative
Year Cash Flow Cash Flow Cash Flow Cash Flow
0 $90,000 $90,000 $90,000 $90,000
1 22,000 68,000 15,000 75,000
2 25,000 43,000 15,000 60,000
3 25,000 18,000 15,000 45,000
4 20,000 35,000 10,000
5 18,000 40,000
Project Cost $110,000 $120,000
Payback Period 3  18,000/20,000  3.9 years 4  10,000/40,000  4.25 years
c. The payback method would select the coffee shop because it’s payback period of 3.9
years is lower than the restaurant’s payback period of 4.25 years.
 d. One shortcoming of the payback method is that it disregards expected future cash
flows as in the case of the restaurant.

P10-10 NPV: Mutually exclusive projects (LG 3; Intermediate)

a.,b., c, d and e.
Cash flows in thousands. Negative numbers are outflows; positive inflows.
Profitability Index = Present value of cash inflows ÷ Initial outlay (expressed as
positive number).

NPV Determining
Firm's cost of capital 15%
Year-End cash
flow
Yea
r Project A Project B Project C
0 -850.000,00 -600.000,00 -1.500.000,00
1 150.000,00 120.000,00 800.000,00
2 150.000,00 140.000,00 300.000,00
3 150.000,00 160.000,00 200.000,00
4 150.000,00 180.000,00 200.000,00
5 150.000,00 200.000,00 200.000,00
6 150.000,00 250.000,00 300.000,00
7 150.000,00 400.000,00
8 150.000,00 500.000,00
NPV -176.901,77 25.843 211.308,50
Choice of Project Project C

PV 673.098,23 625.843,37 1.711.308,50

PI 0,79 1,04 1,14

P10-11 Personal finance: Long-term investment decisions, NPV method (LG 3; Intermediate)
Upfront cost of EMBA program $153,000
($67,000 for tuition and $86,000 for lost earnings)
Incremental benefit (higher salary per year) $48,000
Time frame (years) 40
Opportunity cost 5.0%
NPV = Present value of cash Inflows – Initial investment. In Excel, present value of cash
inflows = PV(0.05,40,-48000) = $823,634.14. NPV = $823,634.14 – $153,000 =
$670,636.14. So, the benefits of the EMBA program outweigh the cost for Mavis.