Introduction to Finance

17. 
Challenge Problem
Sensitivity analysis involves changing one 
variable at a time in a capital budgeting situation and seeing how 
NPV changes. Perform sensitivity analysis on the each of the follow-
ing variables in Problem 16 to determine its eff ect on NPV.
a. 
Sales can be 10 percent higher or lower than expected each 
year.
b. 
Expenses may be 10 percent higher or lower than expected each 
year.
c. 
Your initial investment in fi xed assets and working capital may 
be 50 percent higher than originally estimated.
18. 
Project R requires an investment of $45,000 and is expected to 
produce after-tax cash infl ows of $15,000 per year for fi ve years. The 
cost of capital is 10 percent.
a. 
Determine the payback period, the NPV, and the PI for project 
R. Is the project acceptable?
b. 
Assume the risk-adjusted discount rate is 14 percent. Calculate 
the risk-adjusted net present value. Is the project acceptable after 
adjusting for its greater risk?
c. 
Calculate the internal rate of return.
19. 
Assume the fi nancial manager of the Sanders Electric Company 
in Problem 6 believes that project M is comparable in risk to the 
fi rm’s other assets. In contrast, project O’s after-tax cash infl ows has 
greater uncertainty. Sanders Electric uses a 4 percentage point risk 
premium for riskier projects. The fi rm’s cost of capital is 10 percent.
a. 
Determine the risk-adjusted NPVs for project M and project O, 
using RADRs where appropriate.
b. 
Are both projects acceptable investments? Which one would you 
choose?
20. 
The BioTek Corporation has a basic cost of capital of 15 percent 
and is considering investing in one or both of the following projects. 
Project HiTek will require an investment of $453,000, while project 
LoTek’s investment will be $276,000. The following after-tax cash 
fl ows (including the investment outfl ows in year zero) are estimated 
for each project.

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Problems