You have just started your summer internship, and your boss asks you to review a recent analysis that was done to compare three alternative proposals to enhance the firm's manufacturing facility. You find that the prior analysis ranked the proposals according to their IRRs and recommended the highest IRR option, Proposal A. You are concerned and decided to redo the analysis using NPV to determine whether this recommendation was appropriate. But while you are confident the IRRS were computed correctly, it seems that some of the underlying data regarding the cash flows that were estimated for each proposal were not included in the report. For Proposal B, you cannot find information regarding the total initial investment that was required in year 0. And for Proposal C, you cannot find the data regarding additional salvage value that will be recovered in year 3. Here is the information you have: Proposal IRR Year 0 Year 1 Year 2 Year 3 A 60.0% -100 30 153 88 B 55.0% ? 0 206 95 C 50.0% -100 37 0 204 ? Suppose the appropriate cost of capital for each alternative is 10%. (a) Using this information, determine the NPV of each project. Based on your calculation, which project should the firm choose? (b) Why is ranking the projects by their IRRS not valid in this situation? Briefly explain your answers.
You have just started your summer internship, and your boss asks you to review a recent analysis that was done to compare three alternative proposals to enhance the firm's manufacturing facility. You find that the prior analysis ranked the proposals according to their IRRs and recommended the highest IRR option, Proposal A. You are concerned and decided to redo the analysis using NPV to determine whether this recommendation was appropriate. But while you are confident the IRRS were computed correctly, it seems that some of the underlying data regarding the cash flows that were estimated for each proposal were not included in the report. For Proposal B, you cannot find information regarding the total initial investment that was required in year 0. And for Proposal C, you cannot find the data regarding additional salvage value that will be recovered in year 3. Here is the information you have: Proposal IRR Year 0 Year 1 Year 2 Year 3 A 60.0% -100 30 153 88 B 55.0% ? 0 206 95 C 50.0% -100 37 0 204 ? Suppose the appropriate cost of capital for each alternative is 10%. (a) Using this information, determine the NPV of each project. Based on your calculation, which project should the firm choose? (b) Why is ranking the projects by their IRRS not valid in this situation? Briefly explain your answers.
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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Question
Transcribed Image Text:You have just started your summer internship, and your boss asks you to review a recent analysis
that was done to compare three alternative proposals to enhance the firm's manufacturing
facility. You find that the prior analysis ranked the proposals according to their IRRs and
recommended the highest IRR option, Proposal A. You are concerned and decided to redo the
analysis using NPV to determine whether this recommendation was appropriate. But while
you are confident the IRRS were computed correctly, it seems that some of the underlying data
regarding the cash flows that were estimated for each proposal were not included in the report.
For Proposal B, you cannot find information regarding the total initial investment that was
required in year 0. And for Proposal C, you cannot find the data regarding additional salvage
value that will be recovered in year 3. Here is the information you have:
Proposal
IRR
Year 0 Year 1
Year 2 Year 3
A
60.0%
-100
30
153
88
B
55.0%
?
0
206
95
C
50.0%
-100
37
0
204 ?
Suppose the appropriate cost of capital for each alternative is 10%.
(a) Using this information, determine the NPV of each project. Based on your calculation,
which project should the firm choose?
(b) Why is ranking the projects by their IRRS not valid in this situation? Briefly explain your
answers.
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