A firm’s cost of capital is 12 percent. The firm has three investments to choose among; the cash inflows of each are as follows:
Cash Inflows
A B C
YEAR 1 395 0 1241
YEAR 2 395 0 0
YEAR 3 395 0 0
YEAR 4 0 1749 0
Each investment requires a $1,000 cash outlay, and investment B and C are mutually exclusive.
(a) Which investment(s) should the firm make according to the net present values? Why?
(b) Which investments(s) should the firm make according to the internal rates of return? Why?
(c) If all funds are reinvested at 15 percent, which investment(s) should the firm make? Would your answer be different if the reinvestment rate were 12 percent?
