Assume You Are The Chief Financial Officer At Porter 278462

Assume That You Are The Cheif Financial Officer At Porter Memorial Hos

Assume that you are the chief financial officer at Porter Memorial Hospital. The CEO has asked you to analyze two proposed capital investments—Project X and Project Y. Each project requires a net investment outlay of $10,000, and the cost of capital for each project is 12 percent. The projects' expected net cash flows are as follows:

Year | Project X | Project Y

--- | --- | ---

0 | -$10,000 | -$10,000

1 | $6,500 | $3,000

2 | $3,000 | $3,000

3 | $3,000 | $3,000

4 | $1,000 | $3,000

Paper For Above instruction

Introduction

As the Chief Financial Officer of Porter Memorial Hospital, evaluating capital investment projects is crucial for ensuring financial growth and operational efficiency. The hospital faces two investment proposals—Project X and Project Y—that require an initial outlay of $10,000 each. To make an informed decision, a comprehensive financial analysis encompassing the payback period, net present value (NPV), and internal rate of return (IRR) is necessary. This paper discusses each project’s financial metrics, their calculations, and the implications for project acceptance based on these analyses.

Methodology

The analysis involves calculating the payback period, NPV, and IRR of both projects. The payback period measures the time needed to recover the initial investment. NPV considers the present value of future cash flows discounted at the project’s cost of capital (12%). IRR is the discount rate at which the project’s NPV equals zero. Standard financial formulas and future cash flow data are employed to perform these calculations.

Calculation of Payback Period

The payback period determines how swiftly each project recovers its initial capital outlay. For Project X, accumulating cash flows annually:

- Year 1: $6,500 (remaining: $3,500)

- Year 2: $3,000 (remaining after Year 1: $3,500 - $3,000 = $500)

- Year 3: $3,000 (partial recovery in Year 3 needed to fully recover $10,000)

Thus, the payback period for Project X is slightly above 2 years, specifically between Year 2 and Year 3, approximately 2.17 years.

For Project Y:

- Year 1: $3,000 (remaining: $7,000)

- Year 2: $3,000 (remaining: $4,000)

- Year 3: $3,000 (remaining: $1,000)

- Year 4: $3,000 (partial recovery needed)

The payback period for Project Y surpasses 3 years, about 3.33 years.

Calculation of Net Present Value (NPV)

NPV is calculated using the formula:

NPV = ∑ (Cash Flow at Year t) / (1 + r)^t - Initial Investment

Where r = 12%.

Project X:

NPV = -$10,000 + ($6,500/1.12) + ($3,000/1.12^2) + ($3,000/1.12^3) + ($1,000/1.12^4)

Calculations yield an NPV of approximately $1,156, indicating a profitable project.

Project Y:

NPV = -$10,000 + ($3,000/1.12) + ($3,000/1.12^2) + ($3,000/1.12^3) + ($3,000/1.12^4)

The NPV for Project Y is approximately -$1,075, indicating a negative net value and thus, an unprofitable project based on NPV criteria.

Calculation of Internal Rate of Return (IRR)

IRR is the discount rate r where NPV = 0.

For Project X, IRR is approximately 16.8%, higher than the 12% threshold, suggesting acceptance.

For Project Y, IRR is approximately 9.6%, below the required 12%, suggesting rejection.

Discussion and Conclusion

Based on the calculations, Project X exhibits an acceptable payback period (~2.17 years), a positive NPV ($1,156), and an IRR (~16.8%) exceeding the cost of capital. Therefore, it is financially acceptable and appears to be a worthwhile investment.

In contrast, Project Y's payback period (~3.33 years) exceeds a typical acceptable period, its NPV is negative, and its IRR (~9.6%) falls short of the 12% required rate of return. Consequently, Project Y is financially unattractive under these criteria.

Considering these financial metrics, it is advisable for Porter Memorial Hospital to proceed with Project X while rejecting Project Y. This decision aligns with sound financial principles aimed at maximizing value for the hospital's stakeholders.

References

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