Tesar Chemicals is considering Projects S and L, whose cash flows are shown belo

Question

Tesar Chemicals is considering Projects S and L, whose cash flows are shown below. These projects are mutually exclusive, equally risky, and not repeatable. The CEO believes the IRR is the best selection criterion, while the CFO advocates the NPV. If the decision is made by choosing the project with the higher IRR rather than the one with the higher NPV, how much, if any, value will be forgone, i.e., what's the chosen NPV versus the maximum possible NPV? Note that (1) "true value" is measured by NPV, and (2) under some conditions the choice of IRR vs. NPV will have no effect on the value gained or lost.

WACC: 7.50%
Year 0 1 2 3 4
CFS -$1,100 $550 $600 $100 $100
CFL -$2,700 $650 $725 $800 $1,400

a. $138.10
b. $149.21
c. $160.31
d. $171.42
e. $182.52

PLEASE SHOW YOUR WORK!

Explanation / Answer

answer is a. $138.10 NPV of CFS = -$1,100 + $550/1.075 + $600/1.075^2 + $100/1.075^3 + $100/1.075^4 = $86.20 NPV of CFL = -$2,700 + $650/1.075 + $725/1.075^2 + $800/1.075^3 + $1,400/1.075^4 =$224.3065 Difference between the two CFL-CFS= $224.3065 - $86.20 =$138.10 a. $138.10

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