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  2. I hoped somebody else had asked this.
    I noticed some of the projects are shorter term than others. Does payback period ever come into consideration when evaluating project ( for exam purposes).
    Does the NPV/dollar originally invested have to be the same, for payback period to matter?
    Thank you.

    • Yes – payback period is asked in the exam (and discounted payback period). That is why they are both covered in our free lecture notes and lectures.
      The amount originally invested does not have to be the same.

      • I need to be more specific. Let’s say you have 1.15 npv return/ dollar invested and 3 year payback period from one project and 1.20 npv/ return/dollar in 20 years. If we have to choose between projects which would be more appealing?
        What if the payback difference wasn’t as extreme?

        I understand in reality there would be other considerations, I am asking about exam question.

  3. Hi Sir Moffat,

    Couldn’t the company keep the $100 left over after investing in projects, as reserve for investing in the working capital for the year? Considering there might be higher inflation rates coming into play (although not a part of this practice question) which would mean the company might need some additional funds to buy materials in the upcoming years within the 3 year life of the project?
    Kindly let me know your thoughts.

  4. Hi Sir,
    Instead of calculating the NPV for all combinations of projects in case of non-infinitely divisible projects, can’t we simply rank the individual NPVs for the projects (similar to ranking used in the “infinitely divisible projects” case) and select the top 3 for adding up and getting the best possible combination?
    I think it would save time of calculating the NPVs for all possible combinations. Please do let me know your thoughts.

    • No, you cannot rank by the profitability index if they are not divisible. There is no alternative but to look at each possible combination.
      (If profitability index ever leads to the same result, then it is purely coincidence)

      • Apologies Sir.
        I didn’t mean ranking by Profitability index, but, rather ranking the NPVs themselves, as they are already given and then total up the highest ranked NPVs, instead of calculating different possible combinations of total NPVs.

      • No – you cannot simply rank based on the NPV’s because the amount needed to be invested also matters.
        There is no alternative but to calculate the total NPV’s of the possible investments and choose whichever give the highest total NPV.

  6. Hi John,

    I remember seeing a past question, cannot remember which year, where there were 5 projects to decide on investing and 3 of them were divisible and 2 were exclusively indivisible?
    I am trying to recall what exclusively indivisible means. i think it means that if you produce one of the exclusive indivisible project you cannot produce the other?! I am not sure this is correct. Please clarify for me.

  7. Hi John

    Thanks for the great lecture. I am wondering wouldn’t the company be better off to use the cash surplus to decrease overdraft or other uses we went over in Cash management lecture instead of paying dividends?

    • If the cash is being borrowed, then they will not borrow it if they have nowhere to invest it.

      If, on the other hand, they already have the cash available, then presumably they have a cash balance and not an overdraft, in which case they should give the money to shareholders.

  8. Hello John,

    On part C – Not infinitely divisible, when explaining that the remaining $100 can be given back to the shareholders as dividends, why specifically as dividends and not simply give it back?

    Is there a reason for this?

    Aren’t dividends paid from distributable profits?

    Thank you,

    Great lecture as always!

    • You can’t simply give money back to shareholders! The only way you give them money is by paying them a dividend.
      Legally, you can only pay dividends out of profits that have been realised, but you need to have cash to pay it. The reason most companies do not pay out all their profits as dividends is because they retain and use the cash to expand the company. If they are not able to invest it profitably then they should pay more dividends.

      • Hi,

        I think your lectures are very clear and helpful. Thank you.

        On the point regarding returning the $100 to the investors. If the money has not been borrowed to invest but is sitting in your bank, are you not still earning the cost of capital on that money? I understood that the cost of capital was either the cost of having that money you invested because you had to borrow it, or it was the money you could have made from it if it had just sat in the bank. In which case it would still be making some money?

      • The cost of capital is always the cost of raising money, and money is either raised from the shareholders (and we have the cost of equity) or borrowed from long-term bonds etc. (and we have the cost of debt) or both (and we have the WACC).

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