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1) General Motors is faced with 2 different projects Years project A Cash Flows Project B cash flows 0 (5000) $ (5000) $ 1 50 1500 2 100 2000 3 5900 2500 4 100 1000 Interest rates in the market are 10% 1a) Calculate payback period for both projects, which project is better if both projects are mutually exclusive
1) General Motors is faced with 2 different projects
Years project A Cash Flows Project B cash flows
0 (5000) $ (5000) $
1 50 1500
2 100 2000
3 5900 2500
4 100 1000
Interest rates in the market are 10%
1a) Calculate payback period for both projects, which project is better if both projects are mutually exclusive.
1b) Calculate payback period for both projects, which project is better if both projects are independent & the limit for payback period is 2 years.
1c) Calculate NPV for both projects, which project is better if both projects are independent.
1d) Calculate NPV for both projects, which project is better if both projects are mutually exclusive.
1e) which capital budgeting technique is better & why: the payback period or the NPV
Expert Solution
1 a). Payback period for project A = 2.82 years
For project B = 2.60 years
On the basis of payback period method if the projects are mutually exclusive the project that have lower payback period should be accepted. So, the project B should be accepted because it has lower payback period than project A.
1 b). On the basis of payback period method if the projects are independent than neither project A nor project B should be accepted because the payback period for both the projects are more than the required payback period (2 years).
1 c). NPV for project A = -$370.84
For project B = $577.83
When the projects are independent the project that have positive NPV should be accepted. So, the project B should be accepted because the NPV for project B is positive.
1 d). When the projects are mutually exclusive the project that have highest NPV should be accepted. So, the project B should be accepted because it has greater NPV than project A.
1 e). NPV is widely technique of capital budgeting. The NPV method is better because its depends on time value of money.
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