Projects S and L are equally risky, mutually exclusive, and have normal cash flows. Project S has an IRR of 15%, while Project L's IRR is 12%. The two projects have the same NPV when the cost of capital is 7%. Which of the following statements is CORRECT?

Question

Quizplus · Accepted Answer

The easiest way to think about this question is to begin by drawing an NPV profile as shown below, then using it to decide which statement is correct. Statement e is true, because both projects have an IRR greater than the WACC and thus will have a positive NPV. Statement a is false, because at 6%, the WACC is less than the crossover rate and Project L has a higher NPV than S. Statement b is false, because at 13% the WACC is greater than the crossover rate and S would have a higher NPV than L. Statement c is false, because of reasons mentioned in statement a. Statement d is false, because Project L's NPV profile is steeper, which means Project L's NPV is more sensitive to changes in WACC than Project S's NPV.

Projects S and L Are Equally Risky, Mutually Exclusive, and Have