Project X Has an Up-Front Cost of $1 Million, Whereas

Multiple Choice

Project X has an up-front cost of $1 million, whereas Project Y has an up-front cost of only $200,000. Both projects last five years and provide positive cash flows in Years 1-5. Project X is riskier; its risk-adjusted WACC is 12 percent. Project Y is safer; its risk-adjusted WACC is 8 percent. After discounting each of the project's cash flows at the project's risk-adjusted WACC, you find that Project X has a NPV of $20,000, and Project Y has a NPV of $15,000. The projects are mutually exclusive and cannot be repeated. The firm is not capital constrained; it can raise as much capital as it needs, provided it has profitable projects in which to invest. Given this information, which of the following statements is most correct?

A) The firm should select Project Y because it has a higher return; ($15,000/$200,000) is greater than ($20,000/$1,000,000) .
B) The firm should select Project X because it has a higher NPV.
C) The firm should select Project Y because it is less risky.
D) The firm should reject both projects because their IRRs are less than the risk-adjusted WACC.
E) Statements a and c are correct.
Medium