You are deciding between two mutually exclusive investment opportunities. Both require the same initial investment of...
Fantastic news! We've Found the answer you've been seeking!
Question:
Transcribed Image Text:
You are deciding between two mutually exclusive investment opportunities. Both require the same initial investment of $10.2 million. Investment A will generate $1.93 million per year (starting at the end of the first year) in perpetuity. Investment B will generate $1.43 million at the end of the first year, and its revenues will grow at 2.3% per year for every year after that. a. Which investment has the higher IRR? b. Which investment has the higher NPV when the cost of capital is 7.1%? c. In this case, for what values of the cost of capital does picking the higher IRR give the correct answer as to which investment is the best opportunity? a. Which investment has the higher IRR? The IRR of investment A is The IRR of investment B is ... The NPV of investment B is $ %. (Round the nearest integer.) %. (Round to the nearest integer.) Which project has the higher IRR? (Select from the drop-down menu.) b. Which investment has the higher NPV when the cost of capital is 7.1%? The NPV of investment A is $ million. (Round to two decimal places.) million. (Round to two decimal places.) You should pick investment (Select from the drop-down menu.) c. In this case, for what values of the cost of capital does picking the higher IRR give the correct answer as to which investment is the best opportunity? (Select the best answer below.) O A. The IRR rule will give the correct answer for discount rates greater than 8.88% but less than 19%. B. The IRR rule will give the correct answer for discount rates less than 8.88%. FastTrack Bikes Inc. is thinking of developing a new composite road bike. Development will take six years and the cost is $186,000 per year. Once in production, the bike is expected to make $297,600 per year for 10 years. Assume the cost of capital is 10%. a. Calculate the NPV of this investment opportunity. Should the company make the investment? b. Calculate the IRR and use it to determine the maximum deviation allowable in the cost of capital estimate to leave the decision unchanged (Hint: Use Excel to calculate the IRR.) c. Calculate the NPV of this investment opportunity assuming the cost of capital is 14%. Should the company make the investment given this new assumption? Note: Assume that all cash flows occur at the end of the appropriate year and that the the inflows do not start until year 7. a. Calculate the NPV of this investment opportunity. Should the company make the investment? The present value of the costs is $ The present value of the benefits is $ The net present value is $ (Round to the nearest dollar.) (Select from the drop-down menus.) You should (Round to the nearest dollar.) (Round to the nearest dollar.) the investment because the NPV is b. Calculate the IRR and use it to determine the maximum deviation allowable in the cost of capital estimate to leave the decision unchanged. (Hint: Use Excel to calculate the IRR.) The IRR is %. (Round to two decimal places.) The maximum deviation allowable in the cost of capital estimate to leave the decision unchanged %. (Round to two decimal places.) The NPV will be $ c. What is the NPV of the investment if the cost of capital is 14%? Should the company make the investment given this new assumption? The present value of the costs is $ . (Round to the nearest dollar.) The present value of the benefits is $ (Round to the nearest dollar.) (Round to the nearest dollar.) You should the investment because the NPV is 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 IRR and recommended the highest IRR option, Proposal A. You are concerned and decide 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 was 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 (in $millions): Proposal IRR A 60.0% B 57.0% C 54.0% Year 0 - $100 ? - $100 Year 1 $30 $0 $37 Year 2 $153 $206 Year 3 $88 $95 $0 $204+? a. Determine the two missing data amounts. b. Suppose the appropriate cost of capital for each alternative is 10%. Using this information, determine the NPV of each proposal. Which project should the firm choose? c. Why is ranking the projects by their IRR not valid in this situation? a. Determine the two missing data amounts ($millions). Proposal IRR A 60.0% $153 B 57.0% $206 C 54.0% - $100 $0 (Do not round until the final answer. Then, round to two decimal places.) Year 0 - $100 $ Year 1 $30 $0 $37 Year 2 Year 3 $88 $95 $ b. Suppose the appropriate cost of capital for each alternative is 10%. Using this information, determine the NPV of each proposal. The firm should choose project A. The firm should choose project C. The firm should choose project B. All three projects have the same value. The NPV for proposal A is $ million. (Do not round until the final answer. Then, round to two decimal places.) The NPV for proposal B is $ million. (Do not round until the final answer. Then, round to two decimal places.) The NPV for proposal C is $ million. (Do not round until the final answer. Then, round to two decimal places.) Which project should the firm choose? c. Why is ranking the projects by their IRR not valid in this situation? A. The projects have a total number of years. B. The projects have different scales and different patterns of cash flows over time. C. All the IRR values are positive, which represents a loss in value. D. All the IRR values were calculated using different interest rates. You are considering constructing a new plant in a remote wilderness area to process the ore from a planned mining operation. You anticipate that the plant will take a year to build and cost $96 million upfront. Once built, it will generate cash flows of $16 million per year starting two years from today. In 21 years, after its 20th year of operation, the mine will run out of ore and you expect to pay $224 million to shut the plant down and restore the area to its pristine state. Using a cost of capital of 13%: a. What is the NPV of the project? b. Is using the IRR rule reliable for this project? Explain. c. What are the IRRs of this project? a. What is the NPV of the project? The NPV of the project is $ million. (Round to one decimal place.) b. Is using the IRR rule reliable for this project? Explain. (Select the best choice below.) A. Yes, the IRR rule is reliable, because the project has a negative cash flow that comes after the positive ones. B. No, the IRR rule is not reliable, because the project has a negative net present value. C. Yes, the IRR rule is reliable, because the project has a negative net present value. D. No, the IRR rule is not reliable, because the project has a negative cash flow that comes after the positive ones. c. What are the IRRs of this project? The IRRs of this project in ASCENDING order are decimal places.) % and %. (Round to two Your firm has been hired to develop new software for the university's class registration system. Under the contract, you will receive $499,000 as an upfront payment. You expect the development costs to be $440,000 per year for the next 3 years. Once the new system is in place, you will receive a final payment of $861,000 from the university 4 years from now. a. What are the IRRs of this opportunity? (Hint: Build an Excel model which tests the NPV at 1% intervals from 1% to 40%. Then zero in on the rates at which the NPV changes signs.) b. If your cost of capital is 10%, is the opportunity attractive? Suppose you are able to renegotiate the terms of the contract so that your final payment in year 4 will be $1.2 million. c. What is the IRR of the opportunity now? d. Is it attractive at the new terms? a. What are the IRRs of this opportunity? (Hint: Build an Excel model which tests the NPV at 1% intervals from 1% to 40%. Then zero in on the rates at which the NPV changes signs.) The IRRs of the project in ascending order are % and %. (Round to two decimal places.) b. If your cost of capital is 10%, is the opportunity attractive? If your cost of capital is 10%, the opportunity menu.) Suppose you are able to renegotiate the terms of the contract so that your final payment in year 4 will be $1.2 million. c. What is the IRR of the opportunity now? (Select the best choice below.) OA. The IRR rule works as before. B. Now there are no IRRs. C. The IRR rule always gives the wrong answer. O D. Now there are 3 IRRs. d. Is it attractive at the new terms? (Select from the drop-down If your cost of capital is 10%, the opportunity menu.) (Select from the drop-down You are deciding between two mutually exclusive investment opportunities. Both require the same initial investment of $10.2 million. Investment A will generate $1.93 million per year (starting at the end of the first year) in perpetuity. Investment B will generate $1.43 million at the end of the first year, and its revenues will grow at 2.3% per year for every year after that. a. Which investment has the higher IRR? b. Which investment has the higher NPV when the cost of capital is 7.1%? c. In this case, for what values of the cost of capital does picking the higher IRR give the correct answer as to which investment is the best opportunity? a. Which investment has the higher IRR? The IRR of investment A is The IRR of investment B is ... The NPV of investment B is $ %. (Round the nearest integer.) %. (Round to the nearest integer.) Which project has the higher IRR? (Select from the drop-down menu.) b. Which investment has the higher NPV when the cost of capital is 7.1%? The NPV of investment A is $ million. (Round to two decimal places.) million. (Round to two decimal places.) You should pick investment (Select from the drop-down menu.) c. In this case, for what values of the cost of capital does picking the higher IRR give the correct answer as to which investment is the best opportunity? (Select the best answer below.) O A. The IRR rule will give the correct answer for discount rates greater than 8.88% but less than 19%. B. The IRR rule will give the correct answer for discount rates less than 8.88%. FastTrack Bikes Inc. is thinking of developing a new composite road bike. Development will take six years and the cost is $186,000 per year. Once in production, the bike is expected to make $297,600 per year for 10 years. Assume the cost of capital is 10%. a. Calculate the NPV of this investment opportunity. Should the company make the investment? b. Calculate the IRR and use it to determine the maximum deviation allowable in the cost of capital estimate to leave the decision unchanged (Hint: Use Excel to calculate the IRR.) c. Calculate the NPV of this investment opportunity assuming the cost of capital is 14%. Should the company make the investment given this new assumption? Note: Assume that all cash flows occur at the end of the appropriate year and that the the inflows do not start until year 7. a. Calculate the NPV of this investment opportunity. Should the company make the investment? The present value of the costs is $ The present value of the benefits is $ The net present value is $ (Round to the nearest dollar.) (Select from the drop-down menus.) You should (Round to the nearest dollar.) (Round to the nearest dollar.) the investment because the NPV is b. Calculate the IRR and use it to determine the maximum deviation allowable in the cost of capital estimate to leave the decision unchanged. (Hint: Use Excel to calculate the IRR.) The IRR is %. (Round to two decimal places.) The maximum deviation allowable in the cost of capital estimate to leave the decision unchanged %. (Round to two decimal places.) The NPV will be $ c. What is the NPV of the investment if the cost of capital is 14%? Should the company make the investment given this new assumption? The present value of the costs is $ . (Round to the nearest dollar.) The present value of the benefits is $ (Round to the nearest dollar.) (Round to the nearest dollar.) You should the investment because the NPV is 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 IRR and recommended the highest IRR option, Proposal A. You are concerned and decide 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 was 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 (in $millions): Proposal IRR A 60.0% B 57.0% C 54.0% Year 0 - $100 ? - $100 Year 1 $30 $0 $37 Year 2 $153 $206 Year 3 $88 $95 $0 $204+? a. Determine the two missing data amounts. b. Suppose the appropriate cost of capital for each alternative is 10%. Using this information, determine the NPV of each proposal. Which project should the firm choose? c. Why is ranking the projects by their IRR not valid in this situation? a. Determine the two missing data amounts ($millions). Proposal IRR A 60.0% $153 B 57.0% $206 C 54.0% - $100 $0 (Do not round until the final answer. Then, round to two decimal places.) Year 0 - $100 $ Year 1 $30 $0 $37 Year 2 Year 3 $88 $95 $ b. Suppose the appropriate cost of capital for each alternative is 10%. Using this information, determine the NPV of each proposal. The firm should choose project A. The firm should choose project C. The firm should choose project B. All three projects have the same value. The NPV for proposal A is $ million. (Do not round until the final answer. Then, round to two decimal places.) The NPV for proposal B is $ million. (Do not round until the final answer. Then, round to two decimal places.) The NPV for proposal C is $ million. (Do not round until the final answer. Then, round to two decimal places.) Which project should the firm choose? c. Why is ranking the projects by their IRR not valid in this situation? A. The projects have a total number of years. B. The projects have different scales and different patterns of cash flows over time. C. All the IRR values are positive, which represents a loss in value. D. All the IRR values were calculated using different interest rates. You are considering constructing a new plant in a remote wilderness area to process the ore from a planned mining operation. You anticipate that the plant will take a year to build and cost $96 million upfront. Once built, it will generate cash flows of $16 million per year starting two years from today. In 21 years, after its 20th year of operation, the mine will run out of ore and you expect to pay $224 million to shut the plant down and restore the area to its pristine state. Using a cost of capital of 13%: a. What is the NPV of the project? b. Is using the IRR rule reliable for this project? Explain. c. What are the IRRs of this project? a. What is the NPV of the project? The NPV of the project is $ million. (Round to one decimal place.) b. Is using the IRR rule reliable for this project? Explain. (Select the best choice below.) A. Yes, the IRR rule is reliable, because the project has a negative cash flow that comes after the positive ones. B. No, the IRR rule is not reliable, because the project has a negative net present value. C. Yes, the IRR rule is reliable, because the project has a negative net present value. D. No, the IRR rule is not reliable, because the project has a negative cash flow that comes after the positive ones. c. What are the IRRs of this project? The IRRs of this project in ASCENDING order are decimal places.) % and %. (Round to two Your firm has been hired to develop new software for the university's class registration system. Under the contract, you will receive $499,000 as an upfront payment. You expect the development costs to be $440,000 per year for the next 3 years. Once the new system is in place, you will receive a final payment of $861,000 from the university 4 years from now. a. What are the IRRs of this opportunity? (Hint: Build an Excel model which tests the NPV at 1% intervals from 1% to 40%. Then zero in on the rates at which the NPV changes signs.) b. If your cost of capital is 10%, is the opportunity attractive? Suppose you are able to renegotiate the terms of the contract so that your final payment in year 4 will be $1.2 million. c. What is the IRR of the opportunity now? d. Is it attractive at the new terms? a. What are the IRRs of this opportunity? (Hint: Build an Excel model which tests the NPV at 1% intervals from 1% to 40%. Then zero in on the rates at which the NPV changes signs.) The IRRs of the project in ascending order are % and %. (Round to two decimal places.) b. If your cost of capital is 10%, is the opportunity attractive? If your cost of capital is 10%, the opportunity menu.) Suppose you are able to renegotiate the terms of the contract so that your final payment in year 4 will be $1.2 million. c. What is the IRR of the opportunity now? (Select the best choice below.) OA. The IRR rule works as before. B. Now there are no IRRs. C. The IRR rule always gives the wrong answer. O D. Now there are 3 IRRs. d. Is it attractive at the new terms? (Select from the drop-down If your cost of capital is 10%, the opportunity menu.) (Select from the drop-down
Expert Answer:
Answer rating: 100% (QA)
a To compare the IRRs of the two investments we can calculate the IRR for each investment The IRR is ... View the full answer
Related Book For
Posted Date:
Students also viewed these finance questions
-
You are deciding between two mutually exclusive investment opportunities. Both require the same initial investment of $10 million. Investment A will generate $2 million per year (starting at the end...
-
Which of the theoretical approaches are the most useful in explaining your organisations current IHRM policies and practices?
-
Brunello Winery produces expensive wines. Brunello's enterprise risk management team has chosen its particular risk response to each of its top five inherent risks. The risk graph below shows...
-
The officers of Bradshaw Company are reviewing the profitability of the companys four products and the potential effects of several proposals for varying the product mix. An excerpt from the income...
-
A carpenter is working on a house two blocks away. You notice a slight delay between seeing the carpenter's hammer hit the nail and hearing the blow. At what time does the event "hammer hitsnail"...
-
The current price of a stock is $20. In 1 year, the price will be either $26 or $16. The annual risk-free rate is 5%. Find the price of a call option on the stock that has a strike price of $21 and...
-
a ) A beam of photons with just barely enough individual photon energy to create electron positron pairs undergoes Compton scattering from free electrons before any pair production occurs. Can the...
-
In this assignment, you are going to design and develop a GUI (Graphical User Interface) based color- flipping game in python. The game is composed of a rectangular board divided into a number of...
-
How can you calculate the synergies that must be extracted from an acquisition with a given premium?
-
How do entrepreneurial new-venture creation and corporate new-venture creation differ?
-
What are the roles of strategic leadership in successful strategy implementation?
-
What are characteristics of firms that fit the four international strategy configurations discussed in this chapter?
-
What are the stages of a turnaround plan?
-
Sketch the phase portrait of the equation. d?x = 2x3, dt2 and show that it has an unstable isolated critical point at the origin
-
1) The government decided to reduce taxes on fast-food to increase revenue. The government assumes that fast-food products have a) An inelastic demand b) An elastic demand c) A demand curve that is...
-
Suppose Acap Corporation will pay a dividend of $2.80 per share at the end of this year and a dividend of $3 per share next year. You expect Acaps stock price to be $52 in two years. Assume that...
-
You have an outstanding student loan with required payments of $500 per month for the next four years. The interest rate on the loan is 9% APR (monthly). You are considering making an extra payment...
-
RiverRocks purchase of Raft Adventures (from Problem 18) will cost $100 million, but will generate cash flows that start at $15 million in one year and then grow at 4% per year forever. What is the...
-
Ball \(A\) is released from rest at a height \(b\) above the ground. Ball \(B\) is launched upward from the same height at initial speed \(v_{\mathrm{B}, \mathrm{i}}\). The two balls have the same...
-
Figure 7.26 shows a cart striking a spring. In Figure 7.26a, consider the motion of the cart along the direct path from the initial position \(x_{1}\), which is the position at which the cart makes...
-
A \(1000-\mathrm{kg}\) car traveling at \(10 \mathrm{~m} / \mathrm{s}\) collides with and attaches to an identical car that is initially at rest. (a) How much energy is dissipated in the collision?...
Study smarter with the SolutionInn App