Question

You are choosing between two projects. The cash flows for the projects are given in the following table ($ million) Project Year 0 - $50 - $98 Year 1 S27 S19 Year 2 $19 $42 Year 3 $19 Year 4 $16 a. What are the IRRs of the two projects? b. If your discount rate is 5 4%, what are the NPVs of the two projects? c. Why do IRR and NPV rank the two projects differently?

Answer 1

a. By trial and error method,

	Year
Project	0	1	2	3	4	IRR	NPV
A	-50.00	27.00	19.00	19.00	16.00
PV of Cashflows	-50.00	21.59	12.15	9.72	6.54	25.05%	0.00
B	-98.00	19.00	42.00	51.00	59.00
PV of Cashflows	-98.00	15.54	28.11	27.92	26.42	22.24%	0.00

b. NPV when d = 5.4%

	Year
Project	0	1	2	3	4	NPV
A	-50.00	27.00	19.00	19.00	16.00
PV of Cashflows	-50.00	25.62	17.10	16.23	12.96	21.91
B	-98.00	19.00	42.00	51.00	59.00
PV of Cashflows	-98.00	18.03	37.81	43.56	47.81	49.20

c. The underlying cause of the NPV and IRR conflict is

1. the nature of cash flows (normal vs non-normal),

2. nature of the project (independent vs mutually-exclusive) and

3. size of the project

Give a thumbs up if this helped :)