Question

A firm is considering Projects S and L, whose cash flows are shown below. These projects are mutually exclusive, equally risky, and not repeatable. The CEO wants to use the IRR criterion, while the CFO favors the NPV method. You were hired to advise the firm on the best procedure. If the wrong decision criterion is used, how much potential value would the firm lose?

WACC:	6.75%
	0	1	2	3	4
CFS	-$1,025	$380	$380	$380	$380
CFL	-$2,150	$765	$765	$765	$765

a. $218.17

b. $182.74

c. $214.44

d. $220.03

e. $186.47

Answer 1

year	Project S	Project L
0	-1025	-2150
1	380	765
2	380	765
3	380	765
4	380	765
NPV	$269.44	$455.91
IRR	18%	16%

if we consider IRR criterion our decision may go wrong. because according to IRR Project S is better than Project L

mean while In NPV method, Project L is beter than project S

its better to choose NPV method And project L

if we choose project S wrongly instead of project S ,

the potential loss = (difference in NPV)

$455.91- $269.44= $186.47