If mutually exclusive projects with normal cash flows are being analyzed, the net present value (NPV)…
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Question “If mutually exclusive projects with normal cash flows are being analyzed, the net present value (NPV)…”
If mutually exclusive projects with normal cash flows are being analyzed, the net present value (NPV) and internal rate of return (IRR) methods agree. Projects Y and Z are mutually exclusive projects. Their cash flows and NPV profiles are shown as follows. NPV (Dollars) 800 Year Project Y Project Z 0 -$1,500 -$1,500 1 $200 $900 2 $400 $600 $600 $300 4 $1,000 $200 Project Y Project 2 If the weighted average cost of capital (WACC) for each project is 14%, do the NPV and IRR methods agree or conflict? -200 0 2 4 6 8 The methods conflict. The methods agree. 10 12 14 16 18 20 COST OF CAPITAL (Percent) A key to resolving this conflict is the assumed reinvestment rate. The IRR calculation assumes that intermediate cash flows are reinvested at the , and the NPV calculation implicitly assumes that the rate at which cash flows can be reinvested is the As a result, when evaluating mutually exclusive projects, the is usually the better decision criterion.
Answer
1) Sometimes, we agree
2)
These methods are not compatible
3)
IRR = Required Rate of Return
4)
NPV
Year Project Y Project Z $ (0,500.00) $ (1.500.00) 2 $ 400.00 $ 600.003 $ 600.003 $ 600.004 $ 300.004 $ 1.000.00 $ 2000.00 IRR 13.49% 11.79% NPT $ (19.71), $ 72.06
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