Question
An oil-drilling company must choose between two mutually exclusive extraction projects, and each costs $12 million. Under Plan A, all the oil would be extracted
An oil-drilling company must choose between two mutually exclusive extraction projects, and each costs $12 million. Under Plan A, all the oil would be extracted in 1 year, producing a cash flow at t = 1 of $14.4 million. Under Plan B, cash flows would be $2.1323 million per year for 20 years. The firm's WACC is 12.1%. A) Construct NPV profiles for Plans A and B. Round your answers to two decimal places. Do not round your intermediate calculations. Enter your answers in millions. For example, an answer of $10,550,000 should be entered as 10.55. If an amount is zero enter "0". Negative value should be indicated by a minus sign.
Discount Rate 0% 5% 10% 12% 15% 17% 20%
Plan A (million) 2.40 1.71 1.09 0.86 .52 .31 0.0
Plan B ______ ______ ______ ______ ______ ______ ______
1) Identify each project's IRR. Round your answers to two decimal places. Do not round your intermediate calculations.
Project A _______% Project B _______%
Find the crossover rate. Round your answer to two decimal places. Do not round your intermediate calculations. ________%
2) Is it logical to assume that the firm would take on all available independent, average-risk projects with returns greater than 12.1%? (YES/NO)
3) If all available projects with returns greater than 12.1% have been undertaken, does this mean that cash flows from past investments have an opportunity cost of only 12.1%, because all the company can do with these cash flows is to replace money that has a cost of 12.1%? (YES/NO)
4) Does this imply that the WACC is the correct reinvestment rate assumption for a project's cash flows? (YES/NO)
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