Sign up  |  Log in

DISCOUNT RATE TO MAKE NPV OF 2 PROJECTS EQUAL(CROSSOVER RATE)

Hey everyone,

can anyone help me to understand the problem # 13 in Corporate Finance, Page 30 of the curriculum and how did the answer for that is B..Thanks in advane…

GAYATRI

Kick start your CFA® Program prep with Top Instructors you’ll love and a course that offers free updates until you pass – We’ve got you covered.

Edited…..

I don’t have the books, but don’t you just subtract the nominal values for each period of one project from the other to find the net pmt’s at each time period, then IRR it?  You know, just apply the following to the discount principles, making sure the timing lines up:

NPVa = NPVb

0 = NPVa - NPVb

0 = NPV (a - b)

Like I said I don’t have the books, but that’s all I remember about crossover rates..

Hi,

Crossover rate calculation: Actually you have to calculate IRR on the difference in cash flows. For example:

Project 1: CF0= -100    CF1=30     CF2=50     CF3=60

Project 2: CF0= -90      CF2=40      CF2=40     CF3=80

____________________________________________

DIFFERENCES: -10     -10                10                -20     

Enter the differences as cash flows from t=0 to t=3 and then press IRR button on your calculator….and you get the crossover rate of 20,56%…as simple as that :)

Actually it’s very simple.

In the same problem, you’re given the cashflows of the two projects. Take the difference of every two cashflows and input the difference as if it’s a new project. Calculate its IRR and that is your crossover rate.

This is how you solve the problem:

-100 - (-100) = 0 36 - 0 = 36 36 - 0 = 36 36 - 0 = 36 36 - 175 = -139

CF0 = 0
CF1 = 36
CF2 = 36
CF3 = 36
CF4 = -139
Solve for IRR. It will return 13.16%, which is the ratio provided by the key answer.

Thanks guys..that really helped..

GAYATRI