Question

You are choosing between two projects. The cash flows for the projects are given in the following table ($ million): Project Year 0 - $49 - $98 Year 1 $26 $20 Year 2 $20 $39 Year 3 $19 $49 Year 4 $16 $61 a. What are the IRRs of the two projects? b. If your discount rate is 4.7%, what are the NPVs of the two projects? c. Why do IRR and NPV rank the two projects differently? a. What are the IRRs of the two projects? The IRR for project A is %. (Round to one decimal place.)

Answer 1

a. IRR of Project A using financial calculator
CF0=-49;CF1=26;CF2=20;CF3=19;CF4=16;CPT IRR =26.10%

IRR of Project B using financial calculator
CF0=-98;CF1=20;CF2=39;CF3=49;CF4=61;CPT IRR =21.59%

b. NPV of Project A =PV of Cash -Initial Investment
=20/(1+4.7%)+20/(1+4.7%)^2+19/(1+4.7%)^3+16/(1+4.7%)^4-49=23.95
NPV of Project B=PV of Cash -Initial Investment
=26/(1+4.7%)+39/(1+4.7%)^2+49/(1+4.7%)^3+61/(1+4.7%)^4-98=50.13

c. NPV and IRR rank projects differently because NPV uses cost of capital for discounting which is more realistic and lower than IRR. In IRR reinvestment is assumed at higher rate. Based on size and scale of project NPV is better than IRR.