Acme Oscillators is considering an investment project that has the following rather unusual cash flow pattern.

year cash flow

0 98

1 -461

2 790

3 -690.1

4 171.4

a.Calculate theproject's NPV at each of the following discountrates: 0%, 5%, 10%, 20%, 30%, 40%, 50%

• b. What do the calculations tell you about thisproject's IRR? The IRR rule tells managers to invest if aproject's IRR is greater than the cost of capital. If AcmeOscillators' cost of capital is 8

A.

The calculations tell you thisproject's IRR is greater than 50

50%.

B.

The calculations tell you this project has more than one IRR.

C.

The calculations tell you this project has no IRR.

D.

The calculations tell you that thisproject's IRR is negative.

• The IRR rule tells managers to invest if aproject's IRR is greater than the cost of capital. If AcmeOscillators' cost of capital is8%, should the company accept or reject thisinvestment?

A.

The IRR rule says that the firm should accept the investment if the IRR exceeds the cost of capital.However, in cases with multipleIRRs, one IRR may be greater than the cost ofcapital, while another is lower. In such asituation, it is not clear whether to accept or reject the project.

B.

The IRR rule says that the firm should accept the investment if the IRR exceeds the cost of capital.However, in cases with multipleIRRs, one IRR may be greater than the cost ofcapital, while another is lower. In such asituation, the project should always be accepted.

C.

The IRR rule says that the firm should accept the investment if the IRR exceeds the NPV.However, in cases with multipleIRRs, one IRR may be greater than the cost ofcapital, while another is lower. In such asituation, the project should be accepted if the NPV is greater than 0.

D.

The IRR rule says that the firm should accept the investment if the IRR is less the cost of capital.However, in cases with multipleIRRs, one IRR may be greater than the cost ofcapital, while another is lower. In such asituation, it is not clear whether to accept or reject the project.

• c. Notice that thisproject's greatest NPVs come at very high discount rates. Can you provide an intuitive explanation for thatpattern?

A.

The largest cash outflow (negative 602.1

602.1) occurs in year 3. Other thingsequal, a change in the discount rate will have a larger impact on present value when the outflow or inflow occurs further into the future.

B.

With a50% discountrate, forexample, the present value of the $negative 602.1

602.1 outflow is only negative 178.40

178.40 (29.6

29.6% of the undiscountedoutflow). Incontrast, with a5% discountrate, present value is negative 520.1166

520.1166 (86.4

86.4% of the undiscountedoutflow).

C.

There is not intuitive explanation when there are multiple IRRs.

D.

A and B provide an intuitive explanation.