Question

In: Accounting

Big Inc. is considering Two Projects X and Y, whose cash flows are shown below. These...

Big Inc. is considering Two Projects X and Y, whose cash flows are shown below. These projects are mutually exclusive, equally risky, and not repeatable. The CEO believes the IRR is the best selection criterion, while the CFO advocates other methods.

WACC:

8.00%

Year

0

1

2

3

4

CFx

−$1,100

$450

$500

$100

$100

CFy

−$2,750

$625

$725

$800

$1,400
  1. What are the MIRR’s? Discuss the importance of the MIRR method over IRR.
  1. If these projects are mutually exclusive which should be selected and why? If they are in depended which project(s) should be selected and why?
  1. Discuss your results of the methods used above and make a recommendation on the projects to the CEO using the different methods?

Solutions

Expert Solution

Assuming REINVEST RATE- 0.08

MIRR = - 1

=    - 1

=5.41%

fv of cash inflows of CFx IN $
Year CASH FLOWS FV FACTOR @ 8% FORMULA FUTURE VALUE OF CASH INFLOWS
0 (1100)
1 450 1.2597 1.083 (reinvested for three more years) 450*1.2597 = 566.865
2 500 1.1664 1.082 583.20
3 100 1.08 1.081 108

4

 100 1 cannot be reinvested 100
TOTAL 1358

In MIRR we consider that inflow of one year is reinvested in next year at 8% in above case.

Year CASH FLOWS CFy FV FACTOR @ 8% FORMULA FUTURE VALUE OF CASH INFLOWS
0 (2750)
1 625 1.2597 1.083 (reinvested for three more years) 625*1.2597 = 787.3125
2 725 1.1664 1.082 845.64
3 800 1.08 1.081 864

4

 1400 1 cannot be reinvested 1400
TOTAL 3897

MIRR WITH ABOVE FORMULA = 9.10%

MIRR are rates which assume that the internal yearly cash inflows are reinvested at the given reinvestment rate of return i.e. 8% in above case.

IRR assumes that internal yearly cash inflows are reinvested at IRR rate which is rarely the case. Because such options of reinvestment are not readily available in the market.this is the biggest flaw of IRR method.

If this projects are mutually exclusive i.e. only one project can be selected CFy shouldbe selected as it have MIRR higher than CFx

If projects are dependent i.e. any or all projects can be selected Project CFy should be slected as CFx have MIRR lower than 8% of investment rate.

ekkarill92 answered 5 months ago
Next > < Previous

Related Solutions

Solora Inc. is considering Projects X and Y, whose cash flows are shown below. These projects...
Solora Inc. is considering Projects X and Y, whose cash flows are shown below. These projects are equally risky. Firm;s WACC=10%. Year 0 1 2 3 4 CF-X −$1,100 $375 $375 $375 $375 CF-Y −$2,200 $725 $725 $725 $725 a) Calculate Payback Period for these two projects. Which one do you choose if the Threshold is less than 3 years? b) Calculate NPV for these two projects. Are they acceptable? Why? Which one do you choose if they are independent?...
Your company is considering two mutually exclusive projects, X and Y, whose costs and cash flows are shown below:
Problem 10-11MIRR and NPVYour company is considering two mutually exclusive projects, X and Y, whose costs and cash flows are shown below:YearXY0-$5,000-$5,000110004,50021500150032000100044000500The projects are equally risky, and their cost of capital is 15%. You must make a recommendation, and you must base it on the modified IRR (MIRR). Calculate the two projects' MIRRs. Round your answers to two decimal places.Project X       %Project Y       %Which project has the higher MIRR?-Select-XYItem 3
Nast Inc. is considering Projects S and L, whose cash flows are shown below. These projects...
Nast Inc. is considering Projects S and L, whose cash flows are shown below. These projects are mutually exclusive, equally risky, and not repeatable. If the decision is made by choosing the project with the higher MIRR rather than the one with the higher NPV, how much value will be forgone? Note that under some conditions choosing projects on the basis of the MIRR will cause $0.00 value to be lost. WACC: 10.75% 0 1 2 3 4 CFS -$1,100...
Yonan Inc. is considering Projects S and L, whose cash flows are shown below. These projects...
Yonan Inc. is considering Projects S and L, whose cash flows are shown below. These projects are mutually exclusive, equally risky, and not repeatable. If the decision is made by choosing the project with the shorter payback, some value may be forgone. How much value will be lost in this instance? Note that under some conditions choosing projects on the basis of the shorter payback will not cause value to be lost WACC 11.75% 0 1 2 3 4 CFs...
Nast Inc. is considering Projects S and L, whose cash flows are shown below. These projects...
Nast Inc. is considering Projects S and L, whose cash flows are shown below. These projects are mutually exclusive, equally risky, and not repeatable. If the decision is made by choosing the project with the higher MIRR rather than the one with the higher NPV, how much value will be forgone? Note that under some conditions choosing projects on the basis of the MIRR will cause $0.00 value to be lost. WACC: 10.75% 0 1 2 3 4 CFS -$1,100...
Poston Inc. is considering Projects S and L, whose cash flows are shown below. These projects...
Poston Inc. is considering Projects S and L, whose cash flows are shown below. These projects are mutually exclusive (must choose one or the other), equally risky, and not repeatable. If the decision is made by choosing the project with the higher IRR, how much value will be forgone? You must calculate the IRR and NPV for both projects select the project with the higher IRR and then calculate how much less the NPV is by selecting the project with...
Nast Inc. is considering Projects S and L, whose cash flows are shown below. These projects...
Nast Inc. is considering Projects S and L, whose cash flows are shown below. These projects are mutually exclusive, equally risky, and not repeatable. If the decision is made by choosing the project with the higher MIRR rather than the one with the higher NPV, how much value will be forgone? Note that under some conditions choosing projects on the basis of the MIRR will cause $0.00 value to be lost. WACC: 10.75% 0 1 2 3 4 CFS -$1,100...
Sexton Inc. is considering Projects S and L, whose cash flows are shown below. These projects...
Sexton Inc. is considering Projects S and L, whose cash flows are shown below. These projects are mutually exclusive, equally risky, and not repeatable. If the decision is made by choosing the project with the higher IRR, how much value will be forgone? Note that under certain conditions choosing projects on the basis of the IRR will not cause any value to be lost because the one with the higher IRR will also have the higher NPV, so no value...
Sexton Inc. is considering Projects S and L, whose cash flows are shown below. These projects...
Sexton Inc. is considering Projects S and L, whose cash flows are shown below. These projects are mutually exclusive, equally risky, and not repeatable. If the decision is made by choosing the project with the higher IRR, how much value will be forgone? Note that under certain conditions choosing projects on the basis of the IRR will not cause any value to be lost because the one with the higher IRR will also have the higher NPV, so no value...
Rumpelstiltskin Inc. is considering Projects K and Z, whose cash flows are shown below. These projects...
Rumpelstiltskin Inc. is considering Projects K and Z, whose cash flows are shown below. These projects are mutually exclusive, equally risky, and not repeatable. The CEO wants to use the IRR criterion, while the CFO favors the NPV method. You were hired to advise Rumpelstiltskin Inc on the best procedure. If the wrong decision criterion is used, how much potential value would Rumpelstiltskin Inc. lose? r. 8.50% Year 0 1 2 3 4 CFS −$1,052 $375 $375 $375 $375 CFL...
ADVERTISEMENT
Subjects
ADVERTISEMENT
Latest Questions
ADVERTISEMENT