Clifford Company Is Choosing Between Two Projects

question 89

Multiple Choice

Clifford 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 will cross, and the larger project will look better based on the NPV at all positive values of the cost of capital.
• B) If the company uses the NPV method, it will tend to favor smaller, shorter-term projects over larger, longer-term projects, regardless of how high or low the cost of capital is.
• 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 cost of capital 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 smaller project will look better if the cost of capital is less than the crossover rate.
• E) 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 the cost of capital.

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Definitions:

Opportunity Cost

The value of the next best alternative forgone as a result of making a decision.

Submarine

A watercraft capable of independent operation underwater, often used for military purposes.

Production Possibility Frontier

An illustration representing the maximum production capabilities for multiple goods with a certain amount of resources.

Opportunity Cost

The economic consequence of bypassing the closest better choice when making a decision.