MBAC 1002 Managerial Economics

Running Head: MANAGERIAL ECONOMICS. 1
MANAGERIAL ECONOMICS ASSIGNMENT
Name:
Institution:
Date:

MANAGERIAL ECONOMICS 2
Net Present Value
Question 8.
TOOL A TOOL B TOOL C
PRESENT
VALUES
INFLOWS IN ($)
3,000,000 1,750,000 1,400,000
INITIAL COST
OF PROJECT IN
($)
2,400,000 1,300,000 1,100,000
NET PRESENT
VALUES IN ($)
600,000 450,000 300,000
It is worth noting that:
Net Present Value = Present Values of Inflows – Initial Cost of Project.
The Tool Company is contemplating to replace their current tools with some new tools
(A, B & C) in the company product line with its limited capital budget of $ 2,400,000.
a. Which tool investment should the company consider as a replacement. Use NPV
method.
The company has two option to undertake with its limited capital budget of $2.4
million. Option 1 is to undertake Project A with an exact initial capital that the company has
budgeted for that is $2.4 million, which has a positive NPV of $ 600,000. The other option is
to undertake a combination of Project B and Project C which have initial cost of $1.3 and
$1.1 respectively adding up to a sum of $2.4 million. Project B has a positive NPV of $
450,000 while Project C has a positive NPV of $ 300,000. The NPV of both combination is $
750,000. The company therefore, should go ahead and implement the projects of a
combination of Project B and Project C (Kierulff, 2008).

MANAGERIAL ECONOMICS 3
b. Is this a correct decision? Why?
This is a correct decision for the company to implement a combination of both
projects B and C this is because with the same initial cost of project, Project A has
NPV of $600,000 while Project B and C with the same initial cost of project, it has an
NPV of $750,000. The company will get more profit of $150,000 if they choose a
combination of Project B and C together and forego Project A (Kierulff, 2008).
Question 9.
Price of equity capital
The price of equity in capital asset pricing is the amount of earnings a company
recompense the shareholder to cater for the capital risk the shareholder undertakes (Cao,
2017).
Corporation selling cost = 9%
Interest rate on government securities=7%
Therefore, the cost of equity capital for the firm is calculated below as:
Price of equity = Cost of bonds + Risk free Premium for equity risk
= 7% + 9%
=16%

MANAGERIAL ECONOMICS 4
References
Cao, Y. M. (2017). Management forecasts and the cost of equity capital: international
evidence. Review of Accounting Studies, 22(2), 791-838.
Kierulff, H. (2008). MIRR: A better measure. Business Horizons, 51(4), 321-329.