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A firm is evaluating two independent projects utilizing the internal rate of return technique. Project X has an initial investment of $80,000 and cash inflows at the end of each of the next five years of $25,000. Project Z has a initial investment of $120,000 and cash inflows at the end of each of the next four years of $40,000.




The firm should




A) accept both if the cost of capital is at most 15 percent.


B) accept only Z if the cost of capital is at most 15 percent.


C) accept only X if the cost of capital is at most 15 percent.


D) none of the above

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Answer:

If cost of capital is 15%

PROJECT X

Year   Cashflow    DF@15%   PV

0         (80,000)          1          (80,000)

1-5        25,000        3.3522   83,805

                                     NPV    3,805  

PROJECT Z

Year     Cashflow    DF@15%    PV

0          (120,000)         1           (120,000)

1-4         40,000         2.8550   114,200

                                       NPV   (5,800)

Accept project X if the cost of capital is at most 15%

The correct answer is C

Explanation:

In this case, the net present value of each project will be computed at 15% cost of capital and the project with positive net present value will be accepted.

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