Question

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 will be lost if the IRR method is used.

WACC:	9.50%
	0	1	2	3	4
CFS	-$2,050	$750	$760	$770	$780
CFL	-$4,300	$1,500	$1,518	$1,536	$1,554

188.91
	$145.46
	$228.58
	$226.70
	$230.47

Answer 1

Solution:

The IRR of project S = 18.06 %

The IRR of project L = 15.58 %

The NPV of project S = $ 397.8013

The NPV of project L = $ 586.7144

The project with higher IRR is Project S with IRR of 18.06 %.

Thus if project S is chosen, the NPV to the company will be $ 397.8013, which is lesser than the NPV of the Project L at

$ 586.7144  with an IRR of 15.58 %

If the decision is made by choosing the project with the higher IRR rather than the one with the higher NPV, the value that will be forgone = $ 586.7144 - $ 397.8013

= $ 188.9132

= $ 188.91 ( When rounded off to two decimal places )

Thus the solution is = $ 188.91

Please find the attached screenshot of the excel sheet containing the detailed calculation for the solution.