PMAN 650 Individual Assignment 7-8

PMAN 650
Individual Assignment 7-8
Capital Budgeting
Your company Portfolio Manager is convening a review board in the first calendar quarter to
consider three projects. You have been asked to provide recommendations with respect to the
capital budgeting aspects of these projects. Your recommendations will be considered by the
review board along with other non-financial aspects of the projects. Initial (year 0) funding will be
provided in the current year for the single project selected.
Project sponsors have provided the following estimated cash flow projections:
Year
0
1
2
3
4
5

Project A
Outflow
Inflow
150,000
20,000
30,000
40,000
40,000
50,000

Netflow
-150,000
20,000
30,000
40,000
40,000
50,000

Project B
Outflow Inflow Netflow
150,000
-150,000
130,000
40,000 -90,000
50,000
50,000
60,000
60,000
90,000
90,000
90,000
90,000

Project C
Outflow Inflow Netflow
200,000
-200,000
150,000
-150,000
90,000
90,000
100,000 100,000
110,000 110,000
120,000 120,000

The company has not yet decided how the selected project will be financed. The cost of capital
or hurdle rate will vary depending upon how the company decides to finance the project. You
decide to compare projects in three areas: (1) payback period (not considering the cost of
capital); NPV sensitivity (see note 1 below); and (3) Internal Rate of Return (IRR).
Based on your analysis, which project would you recommend and why?
Show all calculations supporting your recommendation.
Note 1: Project NPV varies inversely with the cost of funds to perform the project (expressed as
the hurdle rate or k in the NPV discount factor formula). Some project NPVs are more sensitive
to changes in k than others. See the NPV Profile discussion in Gallagher, Chapter 10, pages
278-279 (Reserved Readings) for information on determining NPV sensitivity.