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HCC has a high capital cost but relatively low operating costs, while LCC has a low capital cost but higher operating costs because it uses
HCC has a high capital cost but relatively low operating costs, while LCC has a low capital cost but higher operating costs because it uses more electricity. The costs of the units are shown here. Kim's WACC is
a Which unit would you recommend?
I. Since all of the cash flows are negative, the IRR's will be negative and we do not accept any project that has a negative IRR.
II Since all of the cash flows are negative, the NPVs cannot be calculated and an alternative method must be employed.
III. Since all of the cash flows are negative, the NPVs will be negative and we do not accept any project that has a negative NPV
IV Since we are examining costs, the unit chosen would be the one that had the lower NPV of costs. Since LCCs NPV of costs is lower than HCCs LCC would be chosen.
V Since we are examining costs, the unit chosen would be the one that had the lower NPV of costs. Since HCCs NPV of costs is lower than LCCs HCC would be chosen.
b If Kim's controller wanted to know the IRRs of the two projects, what would you tell him?
I. The IRR of each project will be positive at a lower WACC.
II There are multiple IRR's for each project.
III. The IRR of each project is negative and therefore not useful for decisionmaking.
IV The IRR cannot be calculated because the cash flows are all one sign. A change of sign would be needed in order to calculate the IRR.
V The IRR cannot be calculated because the cash flows are in the form of an annuity.
c If the WACC rose to would this affect your recommendation?
I. Since all of the cash flows are negative, the NPVs will be negative and we do not accept any project that has a negative NPV
II When the WACC increases to the NPV of costs are now lower for LCC than HCC
III. When the WACC increases to the NPV of costs are now lower for HCC than LCC
IV When the WACC increases to the IRR for LCC is greater than the IRR for HCC LCC would be chosen.
V When the WACC increases to the IRR for HCC is greater than the IRR for LCC HCC would be chosen.
Why do you think this result occurred?
I. The reason is that when you discount at a higher rate you are making negative CFs higher and this lowers the NPV
II The reason is that when you discount at a higher rate you are making negative CFs smaller and this lowers the NPV
III. The reason is that when you discount at a higher rate you are making negative CFs smaller thus improving the NPV
IV The reason is that when you discount at a higher rate you are making negative CFs higher thus improving the IRR.
V The reason is that when you discount at a higher rate you are making negative CFs higher thus improving the NPV
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