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 WACC is 7%.Which of the following statements is CORRECT?
A) If the WACC is 10%,both projects will have positive NPVs.
B) If the WACC is 6%,Project S will have the higher NPV.
C) If the WACC is 13%,Project S will have the lower NPV.
D) If the WACC is 10%,both projects will have a negative NPV.
E) Project S's NPV is more sensitive to changes in WACC than Project L's.

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.
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Statement a is true,because both projects have an IRR greater than the WACC and thus will have a positive NPV.Statement b is false,because at 6%,the WACC is less than the crossover rate and Project L has a higher NPV than S.Statement c is false,because at 13% the WACC is greater than the crossover rate and S would have a higher NPV than L.Statement d is false,because of reasons mentioned for statement a.Statement e is false,because Project L's NPV profile is steeper,which means Project L's NPV is more sensitive to changes in WACC.

Projects S and L Are Equally Risky,mutually Exclusive,and Have Normal