If an independent project with conventional, or normal, cash flows is 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) Year Project Y Project Z 800 -$1,500 -$1,500 1 $200 $900 600 Project Y 2 $400 $600 3 $600 $300 400 4 $1,000 $200 Project Z 200 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 10 12 14 16 18 20 COST OF CAPITAL (Percent) O The methods agree. O The methods conflict. 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.
If an independent project with conventional, or normal, cash flows is 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) Year Project Y Project Z 800 -$1,500 -$1,500 1 $200 $900 600 Project Y 2 $400 $600 3 $600 $300 400 4 $1,000 $200 Project Z 200 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 10 12 14 16 18 20 COST OF CAPITAL (Percent) O The methods agree. O The methods conflict. 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.
Essentials Of Investments
11th Edition
ISBN:9781260013924
Author:Bodie, Zvi, Kane, Alex, MARCUS, Alan J.
Publisher:Bodie, Zvi, Kane, Alex, MARCUS, Alan J.
Chapter1: Investments: Background And Issues
Section: Chapter Questions
Problem 1PS
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Transcribed Image Text:If an independent project with conventional, or normal, cash flows is 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.
**Cash Flows Table:**
| Year | Project Y | Project Z |
|------|-----------|-----------|
| 0 | -$1,500 | -$1,500 |
| 1 | $200 | $900 |
| 2 | $400 | $600 |
| 3 | $600 | $300 |
| 4 | $1,000 | $200 |
**Graph Description:**
- The graph plots the NPV (in dollars) on the vertical axis against the cost of capital (in percent) on the horizontal axis, ranging from 0% to 20%.
- The profile for Project Y is represented by a blue curve, while Project Z is represented by an orange curve.
- At a higher cost of capital, Project Z has a higher NPV than Project Y.
If the weighted average cost of capital (WACC) for each project is 14%, do the NPV and IRR methods agree or conflict?
- The methods agree.
- The methods conflict.
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.
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