Question

A company is considering two short-term projects:

Month A B

0 -$1,200 -$1800

1 $0 $ 400

2 $200 $ 400

3 $300 $ 300

4 $400 $ 500

5 $500 $ 200

6 $600 $ 100

a. Based on the undiscounted payback period, which project is preferred?

b. Calculate the benefit-cost ratio for each alternative (use excel)

c. Based on the benefit-cost ratio analysis method, which project is preferred?

(Show and explain your solution)

Answer 1

a.

Month	A	Cumulative Cash flow	B	Cumulative Cash flow
0	-1200	-1200	-1800	-1800
1	0	-1200	400	-1400
2	200	-1000	400	-1000
3	300	-700	300	-700
4	400	-300	500	-200
5	500	200	200	0
6	600	800	100	100

Project A = 4+(300/400)

= 4.75 months

Project B = 5 months

So, as the un-discounted payback period is less for project A, project A is preferred

b.

Month	A	B
0	-1200	-1800
1	0	400
2	200	400
3	300	300
4	400	500
5	500	200
6	600	100
Benefit	2000	1900
Cost	1200	1800
B:C ratio	=2000/1200=1.67	=1900/1800=1.06

c. Based on B:C ratio, project A is preferred as the value is higher when compared to project B