Question

Use the following for Questions 1 - 4:

You are considering two mutually exclusive projects, A and B.

Project A costs $70,000 and generates cash flows of $12,000 for 10 years.

Project B costs $60,000 and generates cash flows of $2,000 for six years and then cash flows of $29,000 for four years.

Report rates in percentage form to two decimal places i.e. 10.03% not 10%

Question 1

At what discount rate would make you indifferent between choosing one project or another?

Question 2

Which project would you ACCEPT if your discount rate was 10%?

A) Project A

B) Project B

C) Both Project A and B

D) Neither Project A or B

Question 3

Which project would you ACCEPT if your discount rate was 5%?

A) Project A

B) Project B

C) Both Project A and B

D) Neither Project A or B

Question 4

What is the highest discount rate in which you can still produce a non-negative NPV?

Answer 1

1-	Year	Project B	Project A	incremental cash flow = cash flow A- cash flow B	2-	Year	Project B	Project A
	0	-60000	-70000	-10000		0	-60000	-70000
	1	2000	12000	10000		1	2000	12000
	2	2000	12000	10000		2	2000	12000
	3	2000	12000	10000		3	2000	12000
	4	2000	12000	10000		4	2000	12000
	5	2000	12000	10000		5	2000	12000
	6	2000	12000	10000		6	2000	12000
	7	29000	12000	-17000		7	29000	12000
	8	29000	12000	-17000		8	29000	12000
	9	29000	12000	-17000		9	29000	12000
	10	29000	12000	-17000		10	29000	12000
	Cross over rate	Using IRR function in MS excel		7.47%		IRR = Using IRR function in MS excel	10.14%	11.23%
						Both project A & B would be selected on the basis of IRR if discount rate is 10% but as projects are mutually exclusive then project with higher IRR would be selected and project A would be selected
3-	Both project A & B would be selected on the basis of IRR if discount rate is 5% but as projects are mutually exclusive then project with higher IRR would be selected and project A would be selected				4-	IRR is the discount at which NPV would be non negative