Question Tag: Project Selection

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  • 15 Marks

PSAF – MAY 2019 – L2 – Q7 – Performance Measurement in the Public Sector

Compare NPV and IRR methods, state decision rules, and apply NPV to evaluate two investment projects for selection.

a. Distinguish between net present value (NPV) and internal rate of return (IRR) and state the decision rule under both criteria. (8 Marks)

b. Two projects A and B have initial capital investment of N900,000 each. The cash inflows of the two projects are as follows:

Required:
i. As a financial analyst, calculate the net present value (NPV) of the two projects given a cost of capital of 12%. (6 Marks)
ii. Based on the results obtained in (i), which of the projects should be chosen? (1 Mark)

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  • 14 Marks

BMF – Nov 2021 – L1 – SB – Q5B – Investment Decisions

This question asks candidates to evaluate two investment projects using the Net Present Value (NPV) method.

McPat Investment Limited is considering investing in either of two mutually exclusive projects, namely Axiom and Axis. Each project costs ₦1.5 billion. The cost of capital to the company is 15%. The projected cash flows from the two projects are as stated below:

Year Axiom (₦’000) Axis (₦’000)
1 220,000 200,000
2 220,000 200,000
3 240,000 220,000
4 240,000 220,000
5 300,000 340,000
6 300,000 340,000
7 280,000 280,000

You are required to evaluate the projects using the Net Present Value method to decide which one to accept.

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  • 20 Marks

FM – Nov 2019 – L2 – Q4 – Capital rationing | Discounted cash flow

Compute NPV and IRR, assess sensitivity, and recommend a project portfolio under capital rationing.

The current financial year of General Kapito Ltd, a sports apparel company based in Ghana, will be ending in two months’ time. The directors of the company will be meeting next week to approve capital projects that will be implemented in the coming financial year. A major concern for the coming year is the availability of finance to meet investment requirements.

The cost of raising new capital in Ghana’s capital market has risen so high that it is not cost-effective to raise small blocks of capital. Consequently, the directors of the company have decided to finance new projects in the coming year with retained earnings and not raise new external capital from the capital market to bridge any financing gap. The maximum amount of retained earnings that will be available for financing new capital projects in the coming year is GH¢62 million.

There are six independent projects that will be presented before the board of directors for approval in their upcoming meeting. Five of the projects have been appraised already (see a summary of the projects in the table below).

Project Investment requirement Net present value (NPV) Internal rate of return (IRR)
PROJECT-01 25 50 36.2%
PROJECT-02 15 45 37.1%
PROJECT-03 9 35 39.5%
PROJECT-04 12 20 34.8%
PROJECT-05 34 To be computed To be computed
PROJECT-06 5 2 33.5%

Project-05 refers to a 5-year contract with a local football club for the manufacture and supply of a special football boot for playing under rainy conditions. It is estimated that this project will require an investment of GH¢34 million in plant and equipment at the start of the first year. The estimated cost of required plant and equipment might change as there are speculations about probable change in technology in the coming year. That notwithstanding, this project is expected to return an after-tax net operating cash flow of GH¢13.5 million every year over the coming five years. The estimated after-tax salvage value of the plant and equipment is GH¢10 million at the end of the fifth year.

The company’s required rate of return is 25%.

Required:

a) Compute the NPV and IRR of Project-05. (10 marks)

b) Assess the sensitivity of the outcome of Project-05 to variations in the cost of plant and equipment. Interpret your result. (5 marks)

c) Assuming the projects are divisible, recommend the portfolio of projects that should be funded in the coming year. (5 marks)

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  • 15 Marks

FM – Nov 2017 – L2 – Q3b – Capital rationing

Determine which projects should be selected based on the capital budget and profitability index under given constraints.

The Gomoa Chemical Limited has a capital budget for 2018 of GH¢1,000,000. The following capital investment proposals are submitted to the capital budget committee:

PROJECT PROFITABILITY INDEX OUTLAY
1 1.2 200,000
2 1.18 200,000
3 1.17 100,000
4 1.10 300,000
5 1.15 200,000
6 1.13 200,000
7 1.19 400,000
8 1.21 100,000
9 1.22 100,000
10 1.16 100,000

The company’s cost of capital is 5%. Projects 2 and 8 are mutually exclusive: Projects 1 and 5 are mutually dependent.

Required:
As the chairman of the budget committee, which projects should the committee choose? (15 marks)

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  • 15 Marks

PSAF – MAY 2019 – L2 – Q7 – Performance Measurement in the Public Sector

Compare NPV and IRR methods, state decision rules, and apply NPV to evaluate two investment projects for selection.

a. Distinguish between net present value (NPV) and internal rate of return (IRR) and state the decision rule under both criteria. (8 Marks)

b. Two projects A and B have initial capital investment of N900,000 each. The cash inflows of the two projects are as follows:

Required:
i. As a financial analyst, calculate the net present value (NPV) of the two projects given a cost of capital of 12%. (6 Marks)
ii. Based on the results obtained in (i), which of the projects should be chosen? (1 Mark)

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  • 14 Marks

BMF – Nov 2021 – L1 – SB – Q5B – Investment Decisions

This question asks candidates to evaluate two investment projects using the Net Present Value (NPV) method.

McPat Investment Limited is considering investing in either of two mutually exclusive projects, namely Axiom and Axis. Each project costs ₦1.5 billion. The cost of capital to the company is 15%. The projected cash flows from the two projects are as stated below:

Year Axiom (₦’000) Axis (₦’000)
1 220,000 200,000
2 220,000 200,000
3 240,000 220,000
4 240,000 220,000
5 300,000 340,000
6 300,000 340,000
7 280,000 280,000

You are required to evaluate the projects using the Net Present Value method to decide which one to accept.

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  • 20 Marks

FM – Nov 2019 – L2 – Q4 – Capital rationing | Discounted cash flow

Compute NPV and IRR, assess sensitivity, and recommend a project portfolio under capital rationing.

The current financial year of General Kapito Ltd, a sports apparel company based in Ghana, will be ending in two months’ time. The directors of the company will be meeting next week to approve capital projects that will be implemented in the coming financial year. A major concern for the coming year is the availability of finance to meet investment requirements.

The cost of raising new capital in Ghana’s capital market has risen so high that it is not cost-effective to raise small blocks of capital. Consequently, the directors of the company have decided to finance new projects in the coming year with retained earnings and not raise new external capital from the capital market to bridge any financing gap. The maximum amount of retained earnings that will be available for financing new capital projects in the coming year is GH¢62 million.

There are six independent projects that will be presented before the board of directors for approval in their upcoming meeting. Five of the projects have been appraised already (see a summary of the projects in the table below).

Project Investment requirement Net present value (NPV) Internal rate of return (IRR)
PROJECT-01 25 50 36.2%
PROJECT-02 15 45 37.1%
PROJECT-03 9 35 39.5%
PROJECT-04 12 20 34.8%
PROJECT-05 34 To be computed To be computed
PROJECT-06 5 2 33.5%

Project-05 refers to a 5-year contract with a local football club for the manufacture and supply of a special football boot for playing under rainy conditions. It is estimated that this project will require an investment of GH¢34 million in plant and equipment at the start of the first year. The estimated cost of required plant and equipment might change as there are speculations about probable change in technology in the coming year. That notwithstanding, this project is expected to return an after-tax net operating cash flow of GH¢13.5 million every year over the coming five years. The estimated after-tax salvage value of the plant and equipment is GH¢10 million at the end of the fifth year.

The company’s required rate of return is 25%.

Required:

a) Compute the NPV and IRR of Project-05. (10 marks)

b) Assess the sensitivity of the outcome of Project-05 to variations in the cost of plant and equipment. Interpret your result. (5 marks)

c) Assuming the projects are divisible, recommend the portfolio of projects that should be funded in the coming year. (5 marks)

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  • 15 Marks

FM – Nov 2017 – L2 – Q3b – Capital rationing

Determine which projects should be selected based on the capital budget and profitability index under given constraints.

The Gomoa Chemical Limited has a capital budget for 2018 of GH¢1,000,000. The following capital investment proposals are submitted to the capital budget committee:

PROJECT PROFITABILITY INDEX OUTLAY
1 1.2 200,000
2 1.18 200,000
3 1.17 100,000
4 1.10 300,000
5 1.15 200,000
6 1.13 200,000
7 1.19 400,000
8 1.21 100,000
9 1.22 100,000
10 1.16 100,000

The company’s cost of capital is 5%. Projects 2 and 8 are mutually exclusive: Projects 1 and 5 are mutually dependent.

Required:
As the chairman of the budget committee, which projects should the committee choose? (15 marks)

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