Your manager asked you to use the internal rate of return (IRR) to choose between the following
Question:
Your manager asked you to use the internal rate of return (IRR) to choose between the following two mutually exclusive projects. Assume the cost of capital is 10%.
Year | Project A | Project B |
0 | -$1,000 | -$1,000 |
1 | $0 | $800 |
2 | $500 | $700 |
3 | $1,200 | $0 |
a. Would you agree with your manager on using IRR to evaluate the above projects? Briefly justify and state your recommendations on alternative capital budgeting techniques. No calculations are required. (4 marks)
b. Which project would you choose? Show your work. (6 marks)
c. In addition to the information given above, your manager let you know that the firm is currently facing capital rationing. How does this affect your project choice in question b? Briefly explain. No calculations are required. (5 marks)
d. Based on the payback period, which project would you choose? Show your work. (5 marks)