Sexton Inc. is considering Projects S and L, whose cash flows are shown below. T

Question

Sexton Inc. is considering Projects S and L, whose cash flows are shown below. These projects are mutually exclusive, equally risky, and not repeatable. If the decision is made by choosing the project with the higher IRR, how much value will be forgone? Note that under certain conditions choosing projects on the basis of the IRR will not cause any value to be lost because the one with the higher IRR will also have the higher NPV, so no value will be lost if the IRR method is used.

WACC:

12.25%

0

1

2

3

4

CFS

-$2,050

$750

$760

$770

$780

CFL

-$4,300

$1,500

$1,518

$1,536

$1,554

$37.61

$47.38

$48.36

$48.85

$59.59

WACC:

12.25%

0

1

2

3

4

CFS

-$2,050

$750

$760

$770

$780

CFL

-$4,300

$1,500

$1,518

$1,536

$1,554

Explanation / Answer

Hi, Please find the correct answer as follows: Year CFS Present Value CFL Present Value 0 -2050 -2050 -4300 -4300 1 750 668.15 1500 1336.30 2 760 603.17 1518 1204.76 3 770 544.42 1536 1086.01 4 780 491.30 1554 978.83 18.06% 257.04 15.58% 305.89 Hence on the basis of IRR, project CFS should be chosen Value foregone = $(305.89-257.04) =$48.85 Hence, option (D), is the corect answer

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