Projects A and B have identical expected lives and identical initial cash outflows (costs). However, most of one project's cash flows come in the early years, while most of the other project's cash flows occur in the later years. The two NPV profiles are given below: Which of the following statements is CORRECT?

A) More of Project B's cash flows occur in the later years.
B) We must have information on the cost of capital in order to determine which project has the larger early cash flows.
C) The NPV profile graph is inconsistent with the statement made in the problem.
D) The crossover rate, i.e., the rate at which Projects A and B have the same NPV, is greater than either project's IRR.
E) More of Project A's cash flows occur in the later years.

Question

Projects A and B have identical expected lives and identical initial cash outflows (costs) . However, most of one project's cash flows come in the early years, while most of the other project's cash flows occur in the later years. The two NPV profiles are given below: Which of the following statements is CORRECT?

A) More of Project B's cash flows occur in the later years. 
B) We must have information on the cost of capital in order to determine which project has the larger early cash flows. 
C) The NPV profile graph is inconsistent with the statement made in the problem. 
D) The crossover rate, i.e., the rate at which Projects A and B have the same NPV, is greater than either project's IRR. 
E) More of Project A's cash flows occur in the later years.

Quizplus · Accepted Answer

The graph indicates that Project A has more cash flows in the later years, while Project B has more cash flows in the early years. Therefore, statement A is incorrect. Since the projects have identical initial cash outflows, information on the cost of capital is not needed to determine which project has the larger early cash flows. Statement B is incorrect. The NPV profile graph is consistent with the problem statement, so statement C is also incorrect. The crossover rate is the rate at which the NPVs of the two projects are equal, and it is less than either project's IRR. Therefore, statement D is incorrect.

Projects a and B Have Identical Expected Lives and Identical