A company is considering two mutually exclusiveexpansion plans. Plan A requires a $40 million expenditure on a large-scale integratedplant that would provide expected cash flows of $6.4 million per year for 20 years. Plan Brequires a $12 million expenditure to build a somewhat less efficient, more labor-intensiveplant with expected cash flows of $2.72 million per year for 20 years. The firm’s WACCis 10%.a. Calculate each project’s NPV and IRR.b. Graph the NPV profiles for Plan A and Plan B and approximate the crossover rate.c. Calculate the crossover rate where the two projects’ NPVs are equal.d. Why is NPV better than IRR for making capital budgeting decisions that add to shareholdervalue?
A company is considering two mutually exclusive
expansion plans. Plan A requires a $40 million expenditure on a large-scale integrated
plant that would provide expected cash flows of $6.4 million per year for 20 years. Plan B
requires a $12 million expenditure to build a somewhat less efficient, more labor-intensive
plant with expected cash flows of $2.72 million per year for 20 years. The firm’s WACC
is 10%.
a. Calculate each project’s
b. Graph the NPV profiles for Plan A and Plan B and approximate the crossover rate.
c. Calculate the crossover rate where the two projects’ NPVs are equal.
d. Why is NPV better than IRR for making capital budgeting decisions that add to shareholder
value?
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