Question

ABC company is considering two manually exclusive projects.both require an initial investment of RS. 50000 each and have life of five years. The cost of capital of the company is 10% and the tax rate is 50%. Depreciation is charged on straight line method the estimate act cash inflows ( before depreciation and tax ) of the two projects are as follow
Year project A. Project B.
1. RS.20000. RS.30000
2. 22000. 27000
3. 28000. 22000
4. 25000. 25000
5. 30000. 20000

1. Which project should be accepted in per NPV and IRR method ?
Or
2. Explain the factors that determine the capital structure of a firm.
​

Answer 1

$DEPRECIATION = \frac{COST OF PROJECT}{LIFE}$

$= \frac{50,000}{5}$

=  10,000

NPV  =  PV  OF  FUTURE  CASH  FLOWS  -  INITIAL  INVESTMENT

PROJECT  A  =  65,506  -  50,000  

=  15,506

PROJECT  B  =  66,759  -  50,000  

=  16,759

$IRR = R_{LOWER} + \frac{NPV_{LOWER}}{NPV_{LOWER} - NPV_{HIGHER}} X (R_{HIGHER} - R_{LOWER})$

PROJECT  A  NPV  @  10%  =  15,506

PROJECT  A  NPV  @  20%  =  51,083  -  50,000  =  1,083

$IRR = 10 + \frac{15,506 }{15,506 - 1,083} X (20 - 10)$

$= 10 + \frac{15,506 }{14,423} X (10)$

=  10  +  (1.075 X 10)

= 20.75%

PROJECT  B  NPV  @  10%  =  16,759

PROJECT  B  NPV  @  20%  =  53,241  -  50,000  =  3,241

$IRR = 10 + \frac{16,759}{16,759 - 3,241} X (20 - 10)$

$= 10 + \frac{16,759}{13,518} X (10)$

=  10  +  (1.240 X  10)

= 22.40%