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    Size Disparity Problem in Investment Proposals

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    A company is considering which of two mutually exclusive projects it should undertake. The Finance Director thinks that the project with the higher NPV should be chosen whereas the Managing Director thinks that the one with the higher IRR should be undertaken especially as both projects have the same initial outlay and length of life. The company anticipates a cost of capital of 10% and the net after tax cash flow of the projects are as follow:

    Year (Cash Flow 000's ) 0 1 2 3 4 5
    Project X (200) 35 80 90 75 20
    Project Y (200) 218 10 10 4 3

    a) Calculate the NPV and IRR of each project.
    b) State with reasons, which project you would recommend.
    c) Explain the inconsistency in the ranking of the two projects.

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    Solution Preview

    a. (i) Calculation of NPV of each project ('000s)
    Year DF @ 10% Project ...

    Solution Summary

    This solution shows step-by-step calculations in an Excel file to determine the NPV and IRR of the project, and also provides an analysis on which project should be recommended.