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Homework answers / question archive / Consider the following two projects with differing lives and suppose each project will be replicated continuously once it wears out
Consider the following two projects with differing lives and suppose each project will be replicated continuously once it wears out. Which Project would you invest in? Project Year 0 Year 0 Year 1 Cash Cash Flow Flow A -100 40 B -73 30 Discount Rate Year 2 Cash Flow 50 30 Year 3 Cash Flow 60 30 Year 4 Cash Flow 0.11 0.11 30
We have to find the Equivalent Annual Annuity (EAA) for both the projects and which ever project has higher EAA has to be accepted
Use NPV function to find the NPV
=NPV(rate,Year1 to YearN cashflows)-Year0 cashflow
Project A:
=NPV(11%, Year1 to Year3 cashflows)-100=20.49
Use PMT function in EXCEL to find EAA
=PMT(rate,nper,pv,fv,type)
rate=11%;nper=3 years;pv=20.49,fv=0
=PMT(11%,3,-20.49,0,0)=8.38
Project B:
=NPV(11%, Year1 to Year3 cashflows)-73=20.07
Use PMT function in EXCEL to find EAA
=PMT(rate,nper,pv,fv,type)
rate=11%;nper=4 years;pv=20.07,fv=0
=PMT(11%,4,-20.07,0,0)=6.47
We should accept Project A because of higher EAA
discount rate 11.0%
Project A Project B
Year0 -100 -73
Year1 40 30.00
Year2 50 30.00
Year3 60 30.00
Year4 30.00
NPV 20.49 20.07
EAA 8.38 6.47
