Chapter 10

The Basics of Capital Budgeting:

Evaluating Cash Flows
SOLUTIONS TO END-OF-CHAPTER PROBLEMS

10-1 NPV = -$52,125 + $12,000[(1/I)-(1/(I*(1+I)N)]

= -$52,125 + $12,000[(1/0.12)-(1/(0.12*(1+0.12)8)]
= $7,486.68.

Financial calculator: Input the appropriate cash flows into the cash flow register, input I
= 12, and then solve for NPV = $7,486.68.

10-2 Financial calculator: Input the appropriate cash flows into the cash flow register and then
solve for IRR = 16%.

10-3 MIRR: PV Costs = $52,125.

FV Inflows:

PV FV
0 12% 1 2 3 4 5 6 7 8
| | | | | | | | |
12,000 12,000 12,000 12,000 12,000 12,000 12,000 12,000
13,440
15,053
16,859
18,882
21,148
23,686
26,528
52,125 MIRR = 13.89% 147,596

Financial calculator: Obtain the FVA by inputting N = 8, I/YR = 12, PV = 0, PMT =

12000, and then solve for FV = $147,596. The MIRR can be obtained by inputting N =
8,
PV = -52125, PMT = 0, FV = 147596, and then solving for I = 13.89%.

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10-5
Year CF Cumulative CF
0 -52,125 -52,125
1 12,000 -40,125
2 12,000 -28,125
3 12,000 -16,125
4 12,000 -4,125
5 12,000 7,875
6 12,000 19,875
7 12,000 31,875
8 12,000 43,875

The cumulative cash flows turns positive in Year 5, so the payback will be 4 plus the part
of Year 5 that is required to return the investment:
Payback = 4 + ($4,125/$12,000) = 4.34.

Because the future cash flows are identical, we can also find the payback period by
dividing the cost by the cash flow: $52,125/$12,000 = 4.34.

10-8 Truck:

NPV = -$17,100 + $5,100(PVIFA14%,5)

= -$17,100 + $5,100(3.4331) = -$17,100 + $17,509
= $409. (Accept)

Financial calculator: Input the appropriate cash flows into the cash flow register, input I
= 14, and then solve for NPV = $409.

Financial calculator: Input the appropriate cash flows into the cash flow register and then
solve for IRR = 14.99% ≈ 15%.

MIRR: PV Costs = $17,100.

FV Inflows:

PV FV
0 14% 1 2 3 4 5
| | | | | |
5,100 5,100 5,100 5,100 5,100
5,814
6,628
7,556
8,614
17,100 MIRR = 14.54% (Accept) 33,712
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Financial calculator: Obtain the FVA by inputting N = 5, I = 14, PV = 0, PMT = 5100,
and then solve for FV = $33,712. The MIRR can be obtained by inputting N = 5, PV =
-17100, PMT = 0, FV = 33712, and then solving for I = 14.54%.

Pulley:

NPV = -$22,430 + $7,500(3.4331) = -$22,430 + $25,748

= $3,318. (Accept)

Financial calculator: Input the appropriate cash flows into the cash flow register, input I
= 14, and then solve for NPV = $3,318.

Financial calculator: Input the appropriate cash flows into the cash flow register and then
solve for IRR = 20%.

MIRR: PV Costs = $22,430.

FV Inflows:

PV FV
0 1 2 3 4 5
| 14% | | | | |
7,500 7,500 7,500 7,500 7,500
8,550
9,747
11,112
12,667
22,430 MIRR = 17.19% (Accept) 49,576

Financial calculator: Obtain the FVA by inputting N = 5, I = 14, PV = 0, PMT = 7500,

and then solve for FV = $49,576. The MIRR can be obtained by inputting N = 5, PV =
-22430, PMT = 0, FV = 49576, and then solving for I = 17.19%.

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10-9 Electric-powered:

NPVE = -$22,000 + $6,290 [(1/i)-(1/(i*(1+i)n)]

= -$22,000 + $6,290 [(1/0.12)-(1/(0.12*(1+0.12)6)]
= -$22,000 + $6,290(4.1114) = -$22,000 + $25,861 = $3,861.

Financial calculator: Input the appropriate cash flows into the cash flow register, input I
= 12, and then solve for NPV = $3,861.

Financial calculator: Input the appropriate cash flows into the cash flow register and then
solve for IRR = 18%.

Gas-powered:

NPVG = -$17,500 + $5,000 [(1/i)-(1/(i*(1+i)n)]

= -$17,500 + $5,000 [(1/0.12)-(1/(0.12*(1+0.12)6)]
= -$17,500 + $5,000(4.1114) = -$17,500 + $20,557 = $3,057.

Financial calculator: Input the appropriate cash flows into the cash flow register, input I
= 12, and then solve for NPV = $3,057.

Financial calculator: Input the appropriate cash flows into the cash flow register and then
solve for IRR = 17.97% ≈ 18%.
The firm should purchase the electric-powered forklift because it has a higher NPV
than the gas-powered forklift. The company gets a high rate of return (18% > r = 12%)
on a larger investment.

10-17 0 1 2 3 4 5 6 7 8
A: | | | | | | | | |
-10 4 4 4 4 4 4 4 4
-10
-6

Machine A's simple NPV is calculated as follows: Enter CF 0 = -10 and CF1-4 = 4.
Then enter I = 10, and press the NPV key to get NPV A = $2.679 million. However,
this does not consider the fact that the project can be repeated again. Enter these
values into the cash flow register: CF0 = -10; CF1-3 = 4; CF4 = -6; CF5-8 = 4. Then
enter I = 10, and press the NPV key to get Extended NPV A = $4.5096 ≈ $4.51
million.

0 1 2 3 4 5 6 7 8
B: | | | | | | | | |
-15 3.5 3.5 3.5 3.5 3.5 3.5 3.5 3.5

Enter these cash flows into the cash flow register, along with the interest rate, and
press the NPV key to get NPVB = $3.672 ≈ $3.67 million.
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 Machine A is the better project and will increase the company's value by $4.51
million.
The EAA of machine A is found by first finding the PV: N = 4, I/YR = 10, PMT
= 4, FV = 0; solve for PV = −12.679. The NPV is $12.679 − $10 = $2.679 million.
We convert this to an equivalent annual annuity by inputting: N = 4, I/YR = 10, PV =
−2.679, FV = 0, and solve for PMT = EAA = 0.845 ≈ $0.85 million.
For machine B, we already found the NPV of 3.672. We convert this to an
equivalent annual annuity by inputting: N = 8, I/YR = 10, PV = −3.672, FV = 0, and
solve for PMT = EAA = 0.688 ≈ $0.69 million.

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