Question

Project A had an initial investment of $4 million, out of which $2 million has already been spent. A new Project B needs $1.5 million to complete and will meet the same objectives as Project A. Which project should you select? You can only pick one. DEVELOP PROJECT CHARTER T&T Question You're managing a software project for a manufacturing company. A new computer, which costs $50,000 including shipping and installation, will speed up the development process and cause a gross savings of $100,000 after one year of purchase of the computer. Assuming an interest rate of 10% per annum, what's the NPV of the savings?

A. $90,000
B. $40,909
C. $45,555
D. $91,110

Answer 1

A

Decision: Project A should be selected.

B

NPV =$40,909.09

Step-by-step explanation

A

Since the two projects would achieve the same objectives, the project with the lowest initial cost should be selected.

Kindly note that the $2 million already spend on project A is not a relevant cash flow because it is sunk cost. Hence, the initial cos outlay of project A will be $2 million which will be spent should the project be undertaken.

Project B on the other hand would cost $1.5 million in initial cost which is $500,000 cheaper than project A.

Decision: Project A should be selected.

B

The NPV is the difference between the PV of cash inflows and the PV of cash outflows. A positive NPV implies a good investment decision and a negative figure implies the opposite.

NPV of an investment:

NPV = PV of Cash inflows - PV of cash outflow

Initial cost = 50,000

The NPV of the savings

NPV = 100,000× 1.1^(-1) - 50,000= 40,909.09

NPV =$40,909.09