Question

Your division is considering two projects with the following cash flows (in millions):

0

1

2

3

Project A	-$20	$5	$9	$12
Project B	-$13	$8	$7	$3

1. What are the projects' NPVs assuming the WACC is 5%? Enter your answer in millions. For example, an answer of $10,550,000 should be entered as 10.55. Negative values, if any, should be indicated by a minus sign. Do not round intermediate calculations. Round your answer to two decimal places.

   Project A:    $    million

   Project B:    $    million

   What are the projects' NPVs assuming the WACC is 10%? Enter your answer in millions. For example, an answer of $10,550,000 should be entered as 10.55. Negative values, if any, should be indicated by a minus sign. Do not round intermediate calculations. Round your answer to two decimal places.

   Project A:  $    million

   Project B:  $    million

   What are the projects' NPVs assuming the WACC is 15%? Enter your answer in millions. For example, an answer of $10,550,000 should be entered as 10.55. Negative values, if any, should be indicated by a minus sign. Do not round intermediate calculations. Round your answer to two decimal places.

   Project A:  $    million

   Project B:  $    million

2. What are the projects' IRRs assuming the WACC is 5%? Do not round intermediate calculations. Round your answer to two decimal places.

   Project A:    %

   Project B:    %

   What are the projects' IRRs assuming the WACC is 10%? Do not round intermediate calculations. Round your answer to two decimal places.

   Project A:    %

   Project B:    %

   What are the projects' IRRs assuming the WACC is 15%? Do not round intermediate calculations. Round your answer to two decimal places.

   Project A:    %

   Project B:    %

3. If the WACC was 5% and A and B were mutually exclusive, which project would you choose? (Hint: The crossover rate is 3.86%.)

   Project B-Select-Project AProject BNeither A nor BItem 13

   If the WACC was 10% and A and B were mutually exclusive, which project would you choose? (Hint: The crossover rate is 3.86%.)

   Project B-Select-Project AProject BNeither A nor BItem 14

   If the WACC was 15% and A and B were mutually exclusive, which project would you choose? (Hint: The crossover rate is 3.86%.)

   Project B-Select-Project AProject BNeither A nor BItem 15

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Solution

1. Project A: Using a financial calculator, enter the following:

   CF₀ = -20, CF₁ = 5, CF₂ = 9, CF₃ = 12, I/YR = 5; NPV = $3.29. Alternatively,
   
   NPV = -$20 + $5/1.05 + $9/(1.05)² + $12/(1.05)³ = $3.29.

   Change I/YR = 5 to I/YR = 10; NPV = $1.00. Alternatively,
   
   NPV = -$20 + $5/1.10 + $9/(1.10)² + $12/(1.10)³ = $1.00.

   Change I/YR = 10 to I/YR = 15; NPV = -$0.96. Alternatively,
   
   NPV = -$20 + $5/1.15 + $9/(1.15)² + $12/(1.15)³ = -$0.96.

   Project B: Using a financial calculator, enter the following:

   CF₀ = -13, CF₁ = 8, CF₂ = 7, CF₃ = 3, I/YR = 5; NPV = $3.56. Alternatively,
   
   NPV = -$13 + $8/1.05 + $7/(1.05)² + $3/(1.05)³ = $3.56.

   Change I/YR = 5 to I/YR = 10; NPV = $2.31. Alternatively,
   
   NPV = -$13 + $8/1.10 + $7/(1.10)² + $3/(1.10)³ = $2.31.

   Change I/YR = 10 to I/YR = 15; NPV = $1.22. Alternatively,
   
   NPV = -$13 + $8/1.15 + $7/(1.15)² + $3/(1.15)³ = $1.22.

2. Using the data for Project A, enter the cash flows into a financial calculator as follows: CF₀ = -20, CF₁ = 5, CF₂ = 9, CF₃ = 12 and solve for IRR_A = 12.46%. The IRR is independent of the WACC, so it doesn’t change when the WACC changes.

   Using the data for Project B, enter the cash flows into a financial calculator as follows: CF₀ = -13, CF₁ = 8, CF₂ = 7, CF₃ = 3 and solve for IRR_B = 21.49%. Again, the IRR is independent of the WACC, so it doesn’t change when the WACC changes.

3. At a WACC = 5%, NPV_A = $3.29 < NPV_B = $3.56 , so choose Project B .

   At a WACC = 10%, NPV_A = $1.00 < NPV_B = $2.31 , so choose Project B .

   At a WACC = 15%, NPV_A = -$0.96 < NPV_B = $1.22 , so choose Project B .

Solution

Correct Response

eBook Problem Walk-Through

Your division is considering two projects with the following cash flows (in millions):

0

1

2

3

Project A	-$20	$5	$9	$12
Project B	-$13	$8	$7	$3

1. What are the projects' NPVs assuming the WACC is 5%? Enter your answer in millions. For example, an answer of $10,550,000 should be entered as 10.55. Negative values, if any, should be indicated by a minus sign. Do not round intermediate calculations. Round your answer to two decimal places.

   Project A:    $   million

   Project B:    $   million

   What are the projects' NPVs assuming the WACC is 10%? Enter your answer in millions. For example, an answer of $10,550,000 should be entered as 10.55. Negative values, if any, should be indicated by a minus sign. Do not round intermediate calculations. Round your answer to two decimal places.

   Project A:  $   million

   Project B:  $   million

   What are the projects' NPVs assuming the WACC is 15%? Enter your answer in millions. For example, an answer of $10,550,000 should be entered as 10.55. Negative values, if any, should be indicated by a minus sign. Do not round intermediate calculations. Round your answer to two decimal places.

   Project A:  $   million

   Project B:  $   million

2. What are the projects' IRRs assuming the WACC is 5%? Do not round intermediate calculations. Round your answer to two decimal places.

   Project A:   %

   Project B:   %

   What are the projects' IRRs assuming the WACC is 10%? Do not round intermediate calculations. Round your answer to two decimal places.

   Project A:   %

   Project B:   %

   What are the projects' IRRs assuming the WACC is 15%? Do not round intermediate calculations. Round your answer to two decimal places.

   Project A:   %

   Project B:   %

3. If the WACC was 5% and A and B were mutually exclusive, which project would you choose? (Hint: The crossover rate is 3.86%.)

   If the WACC was 10% and A and B were mutually exclusive, which project would you choose? (Hint: The crossover rate is 3.86%.)

   If the WACC was 15% and A and B were mutually exclusive, which project would you choose? (Hint: The crossover rate is 3.86%.)

Answer 1

1.
=-20+5/1.05+9/1.05^2+12/1.05^3=3.29122125040492

2.
=-13+8/1.05+7/1.05^2+3/1.05^3=3.5597667638484

3.
=-20+5/1.1+9/1.1^2+12/1.1^3=0.999248685199094

4.
=-13+8/1.1+7/1.1^2+3/1.1^3=2.31179564237415

5.
=-20+5/1.15+9/1.15^2+12/1.15^3=-0.956686118188538

6.
=-13+8/1.15+7/1.15^2+3/1.15^3=1.22207610750391

7.
=IRR({-20;5;9;12})=12.4578925611943%

8.
=IRR({-13;8;7;3})=21.493016789999%

9.
=IRR({-20;5;9;12})=12.4578925611943%

10.
=IRR({-13;8;7;3})=21.493016789999%

11.
=IRR({-20;5;9;12})=12.4578925611943%

12.
=IRR({-13;8;7;3})=21.493016789999%

13.
Project B

14.
Project B

15.
Project B