A Company Is Choosing Between Two Projects

question 21

Multiple Choice

A company is choosing between two projects.The larger project has an initial cost of $100,000,annual cash flows of $30,000 for 5 years,and an IRR of 15.24%.The smaller project has an initial cost of $50,000,annual cash flows of $16,000 for 5 years,and an IRR of 16.63%.The projects are equally risky.Which of the following statements is correct?

• A)Since the smaller project has the higher IRR, the two projects' NPV profiles cannot cross, and the smaller project's NPV will be higher at all positive values of WACC.
• B)Since the smaller project has the higher IRR, the two projects' NPV profiles will cross, and the larger project will look better based on the NPV at all positive values of WACC.
• C)Since the smaller project has the higher IRR but the larger project has the higher NPV at a zero discount rate, the two projects' NPV profiles will cross, and the larger project will have the higher NPV if the WACC is less than the crossover rate.
• D)Since the smaller project has the higher IRR and the larger NPV at a zero discount rate, the two projects' NPV profiles will cross, and the larger smaller project will look better if the WACC is less than the crossover rate.

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Definitions:

Absorption Costing

An accounting method that includes all manufacturing costs, direct and indirect, in the unit cost of a product.

Net Income

The total profit of a company after all expenses and taxes have been deducted from revenue.

Manufacturing Margin

The difference between the sales revenue generated by manufactured goods and the cost of producing those goods, indicating profitability.

Variable Costing

A pricing technique that incorporates solely the variable costs of production—such as raw materials, direct labor, and variable overhead expenses—into the per-unit cost of products.