Two mutually exclusive investments cost $10,000 each and have the following cash inflows.

The firm's cost of capital is 12 percent. Investment Cash inflow: Year A B 1 $12,407 2 3 4 ; $19,390

What is the net present value of each investment? Inflows of Investment A Year 0 Year 1 Year 2 Year 3 Year 4 NPV Inflows of Investment B

(10,000) 12,407 1,078

(10,000) 19,390 2,323

What is the internal rate of return of each investment? Inflows of Investment A Inflows of Investment B Year 0 (10,000) (10,000) Year 1 12,407 Year 2 Year 3 Year 4 19,390 IRR 24.07% 18.00%

Which investment(s) should the firm make? Investment B has lower IRR as compared to invesment A but NPV must be considered for invesment purposes and invesment B has higher net present value as compared to that of invesment A, so the firm must invest in option B. Would your answers be different to (c) if the funds received in year 1 for investment A could be reinvested at 12 percent? 16 percent? 20 percent?

If reinvested for 12 percent

Inflows of Investment A Year 0 Year 1 Inflows of Investment B

(10,000) -

(10,000) -

Year 2 Year 3 Year 4 NPV

17,431 1,078

19,390 2,323

If reinvested for 16 percent

Inflows of Investment A Year 0 Year 1 Year 2 Year 3 Year 4 NPV Inflows of Investment B

(10,000) 19,366 2,307

(10,000) 19,390 2,323

If reinvested for 20 percent

Inflows of Investment A Year 0 Year 1 Year 2 Year 3 Year 4 NPV Inflows of Investment B

(10,000) 21,439 3,625

(10,000) 19,390 2,323

If the funds received in year 1 for investment A could be reinvested at 20 percent the investment A will become more feasible with NPV of 3,625 as compare to investmnet B which have a NPV of 2,323.