Question

Garage, Inc., has identified the following two mutually exclusive projects:

Year Cash Flow (A) Cash Flow (B)

0 –$ 29,400 –$ 29,400

1 14,800 4,500

2 12,700 10,000

3 9,400 15,600

4 5,300 17,200

1. What is the IRR for each of these projects? (Do not round intermediate calculations. Enter your answers as a percent rounded to 2 decimal places, e.g., 32.16.)

IRR

Project A %

Project B %

2. Using the IRR decision rule, which project should the company accept?

A) Project A

B) Project B

3. Is this decision necessarily correct?

A) Yes

B) No

4. If the required return is 12 percent, what is the NPV for each of these projects? (Do not round intermediate calculations and round your answers to 2 decimal places, e.g., 32.16.)

NPV

Project A $

Project B $

5. Which project will the company choose if it applies the NPV decision rule?

A) Project A

B) Project B

6.At what discount rate would the company be indifferent between these two projects? (Do not round intermediate calculations. Enter your answer as a percent rounded to 2 decimal places, e.g., 32.16.)

Discount rate %

Answer 1

1)	IRR is that discount rate for which NPV is 0.
	The rate is to be found by trial and error as below:
	PROJECT A:
	Year	Cash flows	PVIF at 20%	PV at 20%	PVIF at 19%	PV at 19%
	0	-29400	1.00000	-29400	1.00000	-29400
	1	14800	0.83333	12333	0.84034	12437
	2	12700	0.69444	8819	0.70616	8968
	3	9400	0.57870	5440	0.59342	5578
	4	5300	0.48225	2556	0.49867	2643
				-251		226
	IRR lies between 19% and 20%. The exact value of IRR can be found out by
	simple interpolation as below:
	IRR = 19+226/(251+226)=		19.47%
	PROJECT B:
	Year	Cash flows	PVIF at 18%	PV at 18%	PVIF at 17%	PV at 17%
	0	-29400	1.00000	-29400	1.00000	-29400
	1	4500	0.84746	3814	0.85470	3846
	2	10000	0.71818	7182	0.73051	7305
	3	15600	0.60863	9495	0.62437	9740
	4	17200	0.51579	8872	0.53365	9179
				-38		670
	IRR lies between 17% and 18%. The exact value of IRR can be found out by
	simple interpolation as below:
	IRR = 17+670/(670+38) =		17.95%
2)	As per the IRR decision rule, Project A, with the higher IRR should be accepted.
3)	B) No.
4)	NPV of the projects with required return of 12%:
	PROJECT A:
	Year	Cash flows	PVIF at 12%	PV at 12%
	0	-29400	1.00000	-29400
	1	14800	0.89286	13214
	2	12700	0.79719	10124
	3	9400	0.71178	6691
	4	5300	0.63552	3368
				3998
	NPV = $3,998
	PROJECT B:
	Year	Cash flows	PVIF at 12%	PV at 12%
	0	-29400	1.00000	-29400
	1	4500	0.89286	4018
	2	10000	0.79719	7972
	3	15600	0.71178	11104
	4	17200	0.63552	10931
				4624
	NPV = $4,624
5)	AS per the NPV decision rule, Project B should be accepted as
	its NPV is higher.