Question #68145

California Mining is evaluating the introduction of a new one production process.Two alternatives are available.Production process A an inital cost of $25000 a 4 year life and a $5000 net salvage value and use of Process A will increase net cash flow by $13000 year for each of the 4 years that the equipment is in use

Production process B also requires an initial investment of $25000 will also last 4 years and it's expected salvage value is zero but process B will increase net cash flow by $15247 per year

MANAGEMENT believe that risk= adjusted discount rate of 12 percentage should be used for process A

If California Mining is to be indifferent (same NPV for Process A and B) between the two process what risk adjusted discount rate must be used to evaluate B ?

Production process B also requires an initial investment of $25000 will also last 4 years and it's expected salvage value is zero but process B will increase net cash flow by $15247 per year

MANAGEMENT believe that risk= adjusted discount rate of 12 percentage should be used for process A

If California Mining is to be indifferent (same NPV for Process A and B) between the two process what risk adjusted discount rate must be used to evaluate B ?

Expert's answer

For process A:

Inputs: CF0 = -25000; CF1 = 13000; CF2 = 18000; I = 12.

Output: NPVA = 17663.13.

For process B:

Inputs: CF0 = -42663.13 (-25000-17663.13); CF1 = 15247; Nj = 4.

Output: IRR = 16% = r.

Inputs: CF0 = -25000; CF1 = 13000; CF2 = 18000; I = 12.

Output: NPVA = 17663.13.

For process B:

Inputs: CF0 = -42663.13 (-25000-17663.13); CF1 = 15247; Nj = 4.

Output: IRR = 16% = r.

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