Question

Orchard Biotech Company is considering two mutually exclusive projects (see operational CF estimates below). OBC’s cost of capital is 10%. Calculate NPV and IRR for both projects. A) Which project would you recommend to choose? Why? B) How your NPV and IRR may change if we incorporate leverage into these CF estimates? Explain briefly.

	Year 0	Year 1	Year 2	Year 3
Project A	-100	30	153	88
Project B	-100	37	0	265

Answer 1

B) 1)As we considered Operating cashflows in the calculation of Net Present Value and Internal Rate of Return whereby we would have actually considered the cashflows after taking the operating expenses into consideration.

2)Whereas if a company is levered company that is the capital structure of the company contains debt. Thus Cashflows of the company should be considered after taking into account the interest to be paid for the debt component in the capital structure.

3.Thus the Cashflows for the calcuation of IRR and NPV will be lower when compared to the operating cash flows. Thereby the NPV of the projects will be reduced and also the IRR of the Projects will be reduced.