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, arc as follows: 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 Assuming the projects are independent, which one or ones would you recommend?____________If the projects are mutually exclusive, which would you recommend?______________Notice that the projects have the same cash flow liming pattern. Why is there a conflict between NPV and IRR?___________

Explanation / Answer

a.

i) NPV of Project A :

NPV = -15,000 + 5,000 / 0.13 * (1-(1/1.13)^5) = $2,586.16

NPV of Project B :

NPV = -45,000 + 14,000 / 0.13 * (1-(1/1.13)^5) = $4,241.24

ii) Let IRR be i%

Project A :

-15,000 + 5,000 / i * (1-(1/(1.+i))^5 ) = 0

IRR = 19.86%

Project B :

-45,000 + 14,000 / i * (1-(1/(1.+i))^5 ) = 0

IRR = 16.80%

iii) MIRR be i%

MIRR = (FV of Positive Inflow / PV of Outflow)^(1/n) – 1

Project A :

FV of Positive Inflow = 5000 * (1.13^5 - 1) / 0.13 = 32,401.35

Outflow = $15,000

MIRR = (32401.35 / 15000)^(1/5) – 1 = 16.65%

Project B :

FV of Positive Inflow = 14000 * (1.13^5 - 1) / 0.13 = 90,723.79

Outflow = $45,000

MIRR = (90723.79 / 45000)^(1/5) – 1 = 15.05%

iv) Payback Period :

Project A = 15000/5000 = 3 Years

Project B = 45000/14000 = 3 + 3000/14000 = 3.21 Years

v) Discounted Payback Period :

Project A :

Year 1 Discounted Cashflow = 5000/1.13 = 4424.78

Year 2 Discounted Cashflow = 5000/1.13^2 = 3915.73

Year 3 Discounted Cashflow = 5000/1.13^3 = 3465.25

Year 4 Discounted Cashflow = 5000/1.13^4 = 3066.59

Year 5 Discounted Cashflow = 5000/1.13^5 = 2713.80

Discounted Payback Period = 4 + 127.65/2713.80 = 4.05 Years

Project B :

Year 1 Discounted Cashflow = 14000/1.13 = 12389.38

Year 2 Discounted Cashflow = 14000/1.13^2 = 10964.05

Year 3 Discounted Cashflow = 14000/1.13^3 = 9702.70

Year 4 Discounted Cashflow = 14000/1.13^4 = 8586.46

Year 5 Discounted Cashflow = 14000/1.13^5 = 7598.64

Discounted Payback Period = 4 + 3357.41/7598.64 = 4.44 Years

b.

Since Project A has shorter payback period. Therefore we will select Project A.

c.

We will select Project B because Project B has higher NPV than Project A

d.

The conflicting results can also occur because of the size and investment of the projects. A small project may have low NPV but higher IRR.

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