Question

You MUST explain your answer in order to receive participation credit. Why are some of the other options FALSE? >>>> Which of the following statements is CORRECT? Assume that the project being considered has normal cash flows,with one outflow followed by a series of inflows.

a. A project’s NPV is found by compounding the cash inflows at the IRR to find the terminal value (TV), then discounting the TV at the WACC.

b. The lower the WACC used to calculate it, the lower the calculated NPV will be.

c. If a project’s NPV is less than zero, then its IRR must be less than the WACC.

d. If a project’s NPV is greater than zero, then its IRR must be less than zero.

e. The NPV of a relatively low-risk project should be found using a relatively high WACC

Answer 1

Option c, If a project’s NPV is less than zero, then its IRR must be less than the WACC.

Reasons why others are false:

Option a is incorrect since only a single discounting rate is using to discount the cash flows i.e. either IRR or WACC. NPV involves discounting the cash flows and subtracting from the initial outflow.

Option b is incorrect since the lower the WACC used, the higher will be the NPV.

Option d is incorrect as when a project’s NPV is greater than zero, then its IRR must be greater than the discount rate.

Option e is false since The NPV of a relatively low-risk project should be found using a relatively low WACC