schweser book 3 pg 186 corp fin review questions- gives 2 projects- project 1 has a NPV of 35 million and life in years = 8 project 2 has a NPV of 25 million and life in years = 5 WACC of the firm = 7.5% if we look at these projects under the 2 approaches, least common lives or EAA approach, I understand and can get the EAA side- you just plug and chug into the calculator for NPV, I/Y, etc… easy- EAA are 5.975 mil and 6.179 mil They say replacement chain NPV’s are 75.25 mil and 77.83 mil for the 2. I’m sure this is retardedly easy, but can someone walk me to these #'s? My brain has turned off for the night. Time to go out.
You are probably thinking that how can prj 2 come to 8 years, (if you double it becomes 10) ? replacement project is : keep doubling both, until you have equal lifes In this case : it will be prj 1 * 5 = 40 years prj 2 * 8 = 40 years. now that you have replace the prj 1 5 times and prj 2 8 times, you can go that far to find the NPV … sorry bored of calculation, lemme kw if you can get the above number thru this menthod… if any one knows any better way, let know
i get how with these you want to find the least common # of years- agree with you that it’s 40. but from there- all it gives in the problem is NPV and WACC, no cash flows per year or anything… how do i get then the replacement chain NPV for each so i can compare apples to apples? I did it the EAA way and got the right answer, but would like to understand both ways. thx!
See the professor’s note on page 22 and look at the example on page 23… under the title Replacement Chain NPVs. I think this example does a decent job of showing the Least Common Multiples of lives approach.
If you did CF0=0 CF1=5.975 F1=40 I/Y=7.5 CPT NPV ==> You get 75.25 If you changed to CF1 to 6.179 you get 77.82 CP
shows the approach, but there it details all of the cash flows. one more thing in this problem for those who don’t have schweser- says initial cost of either project is $30 mil. can someone walk me through how schweser got to the replacement chain NPV’s listed above?
bannisja I just saw the outline elsewhere – since I do not have Schweser with me. Because Project 1 has an NPV of 35, with a life of 8 years and the Replacement Chain NPV is the effect of replacing the assets over the life, CF0 = 35 CF8 = 35 CF16=35 CF24=35 CF32=35 Calculate NPV with WACC=7.5 NPV=35+35/1.075^8 + 35/1.075^16 + 35/1.075^24 + 35/1.075^32 = 35 + 19.63 + 11.00 + 6.17 + 3.46 = 75.26 or essentially the way I had done it before 5.975 for 40 periods as well would give you the same solution. Hope this helps CP
perfect, thank you!!!