A firm with a 13% WACC is evaluating two projects for this year\'s capital budge

Question

A firm with a 13% WACC is evaluating two projects for this year's capital budget. After-tax cash flows, including depreciation, are as follows: 0 1 2 3 4 5 Project A -$3,000 $1,000 $1,000 $1,000 $1,000 $1,000 Project B -$9,000 $2,800 $2,800 $2,800 $2,800 $2,800 a. Calculate NPV for each project. Round your answers to the nearest cent. Project A $ Project B $ Calculate IRR for each project. Round your answers to two decimal places. Project A % Project B % Calculate MIRR for each project. Round your answers to two decimal places. Project A % Project B % Calculate payback for each project. Round your answers to two decimal places. Project A years Project B years Calculate discounted payback for each project. Round your answers to two decimal places. Project A years Project B years b. Assuming the projects are independent, which one or ones would you recommend? -Select-Only Project A would be accepted because NPV(A) > NPV(B).Only Project B would be accepted because NPV(B) > NPV(A).Both projects would be accepted since both of their NPV's are positive.Only Project A would be accepted because IRR(A) > IRR(B).Both projects would be rejected since both of their NPV's are negative. c. If the projects are mutually exclusive, which would you recommend? If the projects are mutually exclusive, the project with the highest positive NPV is chosen. Accept Project B.If the projects are mutually exclusive, the project with the highest positive IRR is chosen. Accept Project A.If the projects are mutually exclusive, the project with the highest positive MIRR is chosen. Accept Project A.If the projects are mutually exclusive, the project with the shortest Payback Period is chosen. Accept Project A.If the projects are mutually exclusive, the project with the highest positive IRR is chosen. Accept Project B. d. Notice that the projects have the same cash flow timing pattern. Why is there a conflict between NPV and IRR?

Explanation / Answer

In capital budgeting decision making problems, there is a conflict between IRR and NPV very often. Even in he real life projects this conflict exists. In all these cases, a person has to prefer NPV method over IRR method. IRR method has its own drawbacks such as continuous cash flows has to be there, cash flows have to be in the regular periods, positive and negative cash flows cannot exists simultaneity etc.

Any of the above stated reason is possible for the conflicted result. Choose a result with NPV in mind.

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