Question

1. Bulldog Memorabilia, a small screen printing firm, is considering investing in new technology that allows customers to design their own products online, then they are automatically printed and shipped with only minimal labor costs. The firm has projected the following cash flows

Time 0                   Time 1             Time 2             Time 3             Time 4             Time 5

-2,000,000             450,000            550,000            625,000            600,000            400,000

The firm anticipates selling the equipment for 300,000 (its salvage value) at time 5 and estimates the project cost of capital to be 10%. The firm estimates the IRR on the project to be 13.19%

1. Will the NPV and IRR always provide the same accept / reject decision (is it possible for you to accept a project using NPV and reject it using IRR). Explain in detail (show why they will always agree or provide an example where they don’t) (5 points)
2. If you were comparing this project to another project and could only accept one of them, would it matter if you ranked the projects based upon their NPV or IRR? Explain in detail. (5 points)

Answer 1

A: both the NPV and IRR methods will give the same result when it comes to a single project. This is because if the internal rate of return off of project is lesser than its cost of capital, its net present value will be negative and in such a case the project will be rejected under both the methods. The example for this is the first scenario wherein the net present value is positive because of which it is a profitable project. Also the internal rate of return is greater than the cost of capital due to which again the project is accepted.

B: The two methods may conflict when we are comparing two projects in cases when the scales of projects are different. The example has been provided in the excel sheet. In this scenario by the NPV method, the first project will be selected since its net present value is higher however by the internal rate of return method, the second project will be selected since its rate of return is higher.

Example

Year	Cash flows	Option 2
0	-2000000	-20000
1	450000	0
2	550000	0
3	625000	0
4	600000	0
5	700000	40000
NPV	177661.11	4836.85
IRR	13.19%	14.87%