Question

Use the following information to answer the next three questions. 

Consider the cash flows from two mutually exclusive projects: 

Year	Project A	Project B
0	-$420,000	-$420,000
1	$140,000	$400,000
2	$230,000	$110,000
3	$331,000	$140,000

The appropriate discount rate is 8.5%.

1. Calculate the net present value (NPV) for both projects, and determine which project should be accepted based on NPV. Round both NPVs to the nearest dollar.

2. Calculate the internal rate of return (IRR) for both projects, and determine which project should be accepted based on IRR.

3. Calculate the net present value (NPV) for both projects using the crossover rate as your discount rate. Round both NPVs to the nearest dollar.

Answer 1

1. NPV of project A

=[-420,000+(140000/1.085)+(230000/(1.085)^2+331000/(1.085)^3]

= [-420,000+129032+195375+259142]

=163550

2. NPV of project B

=[-420,000+(400000/1.085)+110,000/(1.085)^2+140,000/(1.085)^3

= (-420000+368663+93440+109607)

= 151710

Project A should be accepted as it has higher net present value