Question

NPV and IRR, Mutually Exclusive Projects

For discount factors use Exhibit 12B-1 and Exhibit 12B-2.

Techno Inc. intends to invest in one of two competing types of flexible manufacturing systems: FLEX-1K and FLEX-2Z. Both systems have a project life of 10 years. The purchase price of the FLEX-1K system is $9,600,000, and it has a net annual after-tax cash inflow of $2,400,000. The FLEX-2Z is more expensive, selling for $11,200,000, but it will produce a net annual after-tax cash inflow of $2,800,000. The cost of capital for the company is 12%.

Required:

1. Calculate the NPV for each project. Round present value calculations and your final answers to the nearest dollar.

FLEX-1K: $
FLEX-2Z

Which model would you recommend using NPV?

2. Calculate the IRR for each project.

Which model would you recommend using IRR?

Answer 1

1. NPV

FLEX-1K: $3,960,535

FLEX-2Z : $4,620,624

FLEX-2Z

2. IRR

FLEX-1K: 21. 4%

FLEX-2Z : 21.4%

FLEX-1K or FLEX-2Z

Step-by-step explanation:

The Net present value is the present value of after tax cash flows substracted from the amount invested.

The internal rate of return is the discount rate that equates the after tax cash flows from an investment to the amount invested.

Using the Financial calculator to calculate the NPV and IRR for FLEX-1K system:

Cash flow for year zero = $-9,600,000

Cash flow each year from year one to ten = $2,400,000

Discount rate = 12%

NPV = $3,960,535.268 = $3,960,535 to the nearest dollar

IRR = 21.406 %

Using the Financial calculator to calculate the NPV and IRR for FLEX-2Z:

Cash flow for year zero = -$11,200,000

Cash flow each year from year one to ten = $2,800,000

Discount rate = 12%

NPV = $4,620,624.480 =$4,620,624

IRR = 21.406%

Using the NPV , the FLEX-2Z would be chosen because it has a higher NPV.

Using the IRR, either projects can be chosen because they have the same IRR.

I hope my answer helps you.