Jones Corp uses a cost of capital of 14% to evaluate average risk projects and a

Question

Jones Corp uses a cost of capital of 14% to evaluate average risk projects and adds/subtracts 2% points to evaluate projects of greater/lesser risk. Currently two mutually exclusive projects are under consideration. Both have a net cost of $240,000 and last four years. Project A, which is riskier than average, will produce cash flows of $97,000 each year. Project B, which is a less-than-average risk, will produce net cash flows of $196,000 in years 3 and 4 only. What should Jones do? SHOW ALL MATH WORK!!!

Explanation / Answer

NPV (project 1 ) = -240,000 + 97000/1.16 + 97000/1.16^2 + 97000/1.16^3 + 97000/1.16^4 = 31,423.5

NPV(Project 2) = -240000 + 196000/1.12^3 + 196000/1.12^4 = 24070.5

NPV (Project 1) >NPV (project 2)

SO go for project 1

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