Oliver 75 - 2nd Question

[saket]

Source : http://www.oliverlehmann.com/pmp-self-t ... stions.htm


2. A company has to make a choice between two projects, because the available resources in money and kind are not sufficient to run both at the same time. Each project would take 9 months and would cost $250,000.
The first project is a process optimization which would result in a cost reduction of $120,000 per year. This benefit would be achieved immediately after the end of the project.

The second project would be the development of a new product which could produce the following net profits after the end of the project:
1. year: $ 15,000
2. year: $ 125,000
3. year: $ 220,000
Assumed is a discount rate of 5% per year. Looking at the present values of the benefits of these projects in the first 3 years, what is true?


Both projects are equally attractive.
The first project is more attractive by app. 7%.
The second project is more attractive by app. 5%.
The first project is more attractive by app. 3%.



Lets discuss this question, please share reason behind your selection.

[thiru26@gmail.com]

Saket,

Below are the calculation steps

The formula for PV = FV/(1+r)^n, sum of each projects for all 3 years will give NPV, then subtract from each other will give benefit/loss numbers and then do a % to find right answer.

1st Project (Process Optimization) NPV ( sum of 3 years ) -> 120,000/(1.05)^1 + 120,000/(1.05)^2 + 120,000/(1.05)^3 = 326789.76352445740200842241658568 (Round up value 326790)
2nd Project (Development) NPV (Sum of 3 years) ->15,000/(1.05)^1 + 125,000/(1.05)^2 + 220,000/(1.05)^3 = 317708.670769895259691178058525 (round up value 317709)

So project 1 is attractive.

Lets calculate %
( 326790 - 317709) * 100 / 317709 = 2.858275969519277074303844083737 (Round up value is 2.86)

Out of 4, last options is the right answer (The first project is more attractive by app. 3%.)

[thiru26@gmail.com]

Thanks for responding , my idea was to create knowledge base of free question bank.. let see if we get people interested in it...

That's great idea, I am sure people will participate.

Thanks for all the help.

[jyotimayank]

For more insight of this topic please refer to the following links

http://www.slideshare.net/sakettg/izenb ... -selection

http://www.izenbridge.com/videogallery/ ... ck-period/

[girishvarote]

HI friends,

I solved this question till finding out NPV and finalizing project 1. but could not understand the below, let me know the logic of calculation. thanks.
is there any formula?

Lets calculate %
( 326790 - 317709) * 100 / 317709 = 2.858275969519277074303844083737 (Round up value is 2.86)