Question

5. You are considering two independent projects. The required return for both projects is 13 percent. Project A has an initial cost of $145,000 and cash inflows of $62,000, $53,000, and $70,000 for Years 1 to 3, respectively. Project B has an initial cost of $95,000 and cash inflows of $40,000, $44,000, and $35,000 for Years 1 to 3, respectively. Given this information, which one of the following statements is correct based on the NPV and IRR methods of analysis?
      
AYou should accept both projects.      
BYou should accept Project A and reject Project B      
CYou should accept Project B and reject Project A.      
DNPV indicates accept Project A while IRR indicates accepting Project B.      
EYou should reject both projects.

Answer 1

Project A
Discount rate	13.000%
Year	0	1	2	3
Cash flow stream	-145000	62000	53000	70000
Discounting factor	1.000	1.130	1.277	1.443
Discounted cash flows project	-145000.000	54867.257	41506.774	48513.511
NPV = Sum of discounted cash flows
NPV Project A =	-112.46
Where
Discounting factor =	(1 + discount rate)^(Corresponding period in years)
Discounted Cashflow=	Cash flow stream/discounting factor

Project A
IRR is the rate at which NPV =0
IRR	12.96%
Year	0	1	2	3
Cash flow stream	-145000.000	62000.000	53000.000	70000.000
Discounting factor	1.000	1.130	1.276	1.441
Discounted cash flows project	-145000.000	54889.022	41539.711	48571.268
NPV = Sum of discounted cash flows
NPV Project A =	0.000
Where
Discounting factor =	(1 + discount rate)^(Corresponding period in years)
Discounted Cashflow=	Cash flow stream/discounting factor

Project B
Discount rate	13.000%
Year	0	1	2	3
Cash flow stream	-95000	40000	44000	35000
Discounting factor	1.000	1.130	1.277	1.443
Discounted cash flows project	-95000.000	35398.230	34458.454	24256.756
NPV = Sum of discounted cash flows
NPV Project B =	-886.56
Where
Discounting factor =	(1 + discount rate)^(Corresponding period in years)
Discounted Cashflow=	Cash flow stream/discounting factor

Project B
IRR is the rate at which NPV =0
IRR	12.44%
Year	0	1	2	3
Cash flow stream	-95000.000	40000.000	44000.000	35000.000
Discounting factor	1.000	1.124	1.264	1.422
Discounted cash flows project	-95000.000	35574.913	34803.297	24621.790
NPV = Sum of discounted cash flows
NPV Project B =	0.000
Where
Discounting factor =	(1 + discount rate)^(Corresponding period in years)
Discounted Cashflow=	Cash flow stream/discounting factor

As NPVs are negative and IRR less than discount rate