Can someone explain this? I just do not understand this question and variations of it: Projects A and B both have initial costs of $300 and receive their cash flows over 4 years. Project B’s cash flows occur at the end of the project and Project A’s cash flows occur evenly over the 4 yrs. If the projects have a 20% crossover discount rate. an analyst using a discount rate greater than 20% would most likely find: Higher NPV NPV Profile A. Project A Flatter B. Project A Steeper C. Project B Flatter D. Project B Steeper
i’ll take a stab - although npv profile is on my ever growing to be reviewed list… i’ll say A. the project with the cash flows occuring early on will have the greater NPV projects with cash flows at the end are more sensitive to changes in discount rate and therefore have a greater slope.
That’s correct. So does it matter what the cross over rate is?
The crossover rate is just the point where the NPVs are the same, so you would be indiff. between the projects at that point and other factors would come into consideration when deciding between the two (such as liquidity needs, opportunity for reinvestment, etc.)
Gotcha thanks guys
wouldn’t that also make D correct?
project B has a lower NPV
Steph, That would seem to be the case, right? If A is flatter than B, B must be steeper than A Seems pretty poorly worded but perhaps I did not understand something there.
Yes, A being flatter than B does imply B being steeper than A. However, as JP_RL_CFA said, Project A still has the higher NPV (the first column)
it’s a two part question, I separated it out but for some reason is didn’t display that way. was supposed to look like this Higher NPV NPV Profile A. Project A Flatter B. Project A Steeper C. Project B Flatter D. Project B Steeper
woah, I missed that part.