Ford Industries is evaluating two mutually exclusive projects with the following

Question

Ford Industries is evaluating two mutually exclusive projects with the following net cash flows:

Ford's WACC is 9.9% and both projects have the same risk as the firm's average project. (NPV)

NPVa = $112.25

NPVb = $86.06

Question:Ford's CFO has instructed managers to use the IRR method when choosing be een mutually exclusive projects. Ifmanagers choose the project with the highest IRR, how much value ill be lost? (Hint: If the project with the highestIRR also has the highest NPV, then no value is lost because the firm selects the project that adds the most value.Otherwise, the difference between the two projects' NPVs is the value lost from using the IRR method instead of theNPV method.)

Explanation / Answer

IRR of a, 2000= (300/r)+(500/r^2)+(800/r^3)+(1200/r^4) IRR= 11.971% IRR of b, 2000= (1000/r)+(800/r^2)+(500/r^3)+(200/r^4) IRR= 12.41% Since NPV of project A is higher and IRR of project B is higher. value lost= 112.25-86.06= $26.19

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