Kim Inc. must Install a new air conditioning unit in its main plant. Kim must install one or the other of the units; otherwise, the highly profitable plant would have to shut down. Two units are available, HCC and Loe (for high and low capital costs, respectively). HCC has a high capital cost but relatively lon operating costs, while LOC hes a low capital cost but higher operating costs because it uses more electricity. The costs of the units are shown here, Kim's WAOC is 5%. 0 1 2 3 4 5 HCC LOC $590,000 $50,000 -$50,000 -550,000 $50,000 $50,000 -$110,000 - $140,000 -$180.000 -$180,000 -$180.000 -$180,000 a. Which unit would you recommend? I. Since we are examining costs, the unit chosen would be the one that had the lower NPV of costs. Since HOC's NPV of costs is lower than LOCS, HCC would be chosen II. Since we are examining costs, the unit chosen would be the one that had the lower NPV of costs. Since LCC's NPV of costs is lower than HCCS, LCC would be chosen. TIT. Since all of the cash Mows are negative, the NPV's cannot be calculated and an alternative method must be amplayed. LV. Since all of the cash flows are negative, the NPV's will be negative and we do not accept any project that has a negative NPV. V. 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. -Select- b. If Kim's controller wented to know the IRR of the two projects, what would you tell him? 1. The IRR of each project is negative and therefore natuscrul for decision-making. II. The IRR cannot be cakulated because the cash flows are all one sign. A change of sign would be needed in order to calculate the IRR ELI. The IRR cannot be calculated because the cash flows are in the form of an annuity TV. The IRR of each project will be positive at a lower WACC. V. There are mult ple RR's for each project. -Select- C. If the WACC rose to 10% would this affect your recommendation? I. When the WACC increases to 10%, the IRR for HOC is greater than the IRR for LOC, HOC would be thusen. II. Since all of the cash flows are negative, the NPV's will be negative and we do not accept any project that has a negative NPV TIT. When the WACC increases to 10%, the NPV al costs are now lower for LCC than HOC. IV. When the WACC increases to 105, the NPV of costs are now lower for HOC than LCC. V. When the WACC increases to 10%, the IRR for LCC is greater than the IRR for HCC, LCC would be chosen. -Select- Why do you think this result occurred? 1. The reason is that when you discount at a higher rate you are making negative CFs higher thus improving the NPV. II. The reason is that when you discount at a higher rate you are making negative CFs higher and this loners the NPV. LLL. The reason is that when you discount at a higher rate you are making negative CFs smaller and this lowers the NPV. IV. The reason is that when you discount at a higher rate you are making negative CFs smaller thus improving the NPV. V. The reason is that when you discount at a higher rate you are making negative CFs higher thus improving the IRR. -Select
