Project S costs $19,000 and its expected cash flows would be $5,000 per year for

Question

Project S costs $19,000 and its expected cash flows would be $5,000 per year for 5 years. Mutually exclusive Project L costs $38,000 and its expected cash flows would be $14,300 per year for 5 years. If both projects have a WACC of 15%, which project would you recommend?
Select the correct answer.
    I. Project L, since the NPVL > NPVS.  
   II. Both Projects S and L, since both projects have IRR's > 0.  
   III. Project S, since the NPVS > NPVL.  
   IV. Both Projects S and L, since both projects have NPV's > 0.  
   V. Neither S or L, since each project's NPV < 0.

Explanation / Answer

Solution:

The answer to the above question is -

I. Project L, since NPVL > NPVS

Project S Year 0 Year 1 to 5 Initial Investment -19,000 Cash inflows 5,000 PVAF @ 15 % for 5 years              3.791 Present value of cash inflows      18,953.93 Total present value of cash inflows      18,953.93 NPV = Total present value of cash inflows - Initial investment -                                      46.07 Project L Year 0 Year 1 to 5 Initial Investment -38,000 Cash inflows 14,300 PVAF @ 15 % for 5 years              3.791 Present value of cash inflows      54,208.25 Total present value of cash inflows      54,208.25 NPV = Total present value of cash inflows - Initial investment                                16,208.25

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