Question from Oliver Lehmann (www.oliverlehmann.com)

Submitted by Hylton on Sun, 07/08/2012 - 19:50

 

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.
  1. 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.
     
  2. 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?

How does the answer come to:

The first project is more attractive by app. 3%.
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Hylton

Mon, 07/09/2012 - 01:56

 Anyone???

ameenhaqqi

Mon, 07/09/2012 - 08:51

I don’t know whether these kinds of calculations are required for the PMP exam or not since I haven’t appeared in the actual exam yet and still preparing for it, anyway as per my understanding here is the solution:


Question is asking: Looking at the present values of the benefits of these projects in the first 3 years, what is true?


The cost and duration of project 1 and project 2 is 9 months and $250,000 so same for both the projects, therefore cost is not the issue; however question is asking the benefit to make a choice between the two projects.


We know that: PV = FV/ (1+r) n
Project 1
1. Year:      120000/ (1+0.05)1 =$114286


2. Year:      120000/ (1+0.05)2 =$108844


3. Year:      120000/(1+0.05)3 =$103661


By adding all 3 values---- 114286+108844+103661


Total = $326,791

Project 2
1. Year:      15000/(1+0.05)1 =$14286


2. Year:      125000/(1+0.05)2 =$113379


3. year:      220000/(1+0.05)3 =$190044
By adding all 3 values---- 14286+113379+190044


Total = $317,709

From the above calculation, the project 1 is producing more than Project 2 so the project 1 is more attractive than project 2 to be sure.


Now to get the answer in percentage, you will have to subtract the values and then divide the numbers with project 1 value.

(326791 - 317709) = 9082/326791 = 0.02779 x 100

this will give 2.78 % which is approx. 3%.


 

Hylton

Mon, 07/09/2012 - 22:33

 Thanks

sspawar

Mon, 07/09/2012 - 10:47

http://pmzilla.com/question-6

Hylton

Mon, 07/09/2012 - 22:34

 Thanks!