Murray Inc. is considering Projects S and L, whose cash flows are shown below. T
ID: 2767398 • Letter: M
Question
Murray Inc. is considering Projects S and L, whose cash flows are shown below. These projects are mutually exclusive, equally risky, and not repeatable. The CEO wants to use the IRR criterion, while the CFO favors the NPV method. You were hired to advise Murray on the best procedure. If the wrong decision criterion is used, how much potential value would Murray lose? (10 points)
WACC:
6.00%
Year
0
1
2
3
4
CFS
-$1,025
$380
$380
$380
$380
CFL
-$2,150
$765
$765
$765
$765
WACC:
6.00%
Year
0
1
2
3
4
CFS
-$1,025
$380
$380
$380
$380
CFL
-$2,150
$765
$765
$765
$765
Explanation / Answer
CFS
Year
CashFlow
PV Factor@ 6%
PV
0
(1,025)
1.0000
(1,025)
1
380
0.9434
358
2
380
0.8900
338
3
380
0.8396
319
4
380
0.7921
301
IRR
17.86%
NPV
292
CFS
Year
CashFlow
PV Factor@ 6%
PV
0
(2,150)
1.0000
(2,150)
1
765
0.9434
722
2
765
0.8900
681
3
765
0.8396
642
4
765
0.7921
606
IRR
15.78%
NPV
501
NPV :
CFS:$209
CFL:$501
IRR :
CFS:17.86%
CFL:15.78%
As NPV is more accurate we choose CFS as it NPV is higher
If we select CFL as IRR we loose (501-209)=$292
CFS
Year
CashFlow
PV Factor@ 6%
PV
0
(1,025)
1.0000
(1,025)
1
380
0.9434
358
2
380
0.8900
338
3
380
0.8396
319
4
380
0.7921
301
IRR
17.86%
NPV
292
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