Joe-Tech has 2 mutually exclusive projects of equal size. Project A is
QUESTION
Joe-Tech has 2 mutually exclusive projects of equal size. Project A is rather risky and has an NPV of $7 million at a risk adjusted discount rate. Project B is quite safe and has an NPV of $5 million at a risk adjusted discount rate. What factor(s) should the company consider in choosing between the
First, we can see that our projects are mutually exclusive, meaning we must choose one or the other and not both. Second, note that in spite of the varying levels of risk between the projects, both were discounted using a risk-adjusted discount rate commiserate with the riskiness of the project. When looking at various projects, an investor must use a discount rate appropriate for the projects level of risk. Riskier projects require the
se of higher discount rates. Lower risk projects can use lower discount rates when evaluating them. So here, we are given that each is discounted using the correct risk -adjusted rate so all we have to do is choose the project with the highest NPV, in this case it is project A. Hope this helps!
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