The forecast net cash flows of two mutually exclusive projects, J and K, are sho
ID: 2625784 • Letter: T
Question
The forecast net cash flows of two mutually exclusive projects, J and K,
are shown in the following table.
Year (end) Project J Project K
0 -$225,000 -$150,000
1 $67,000 $75,000
2 $89,400 $81,300
3 $81,100 $25,500
4 $45,700 $14,400
The IRR of Project J is approximately 10.42% pa. The IRR of Project K is approximately 15.72% pa. Which one of the following four statements about these projects is correct?
a) NPV and IRR must give conflicting ranks if the required rate of return is less than 10.4% pa.
b) Both projects should be rejected if the required rate of return is greater than 15.8% pa.
c) If the required rate of return is 5% pa, Project J should be accepted.
d) If the projects had not been mutually exclusive, both would be acceptable if the required rate of return was less than 15.7% pa.
Explanation / Answer
b) Both projects should be rejected if the required rate of return is greater than 15.8% pa.
The IRR of a project should be greater than the required rate of the return for it to be accepted. As the IRR for peoject J is 10.42% < 15.8% (required rate of return), it should be rejected. Also, the IRR for peoject K is 15.72% < 15.8% (required rate of return), it should also be rejected.
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