II and III only II and IV only I and III only II only I, II, and IV only You are
ID: 2704669 • Letter: I
Question
II and III only II and IV only I and III only II only I, II, and IV only You are considering two projects with the following cash flows: Which of the following statements are true concerning these two projects? Both projects have the same future value at the end of year 4, given a positive rate of return. Both projects have the same future value given a zero rate of return. Project X has a higher present value than Project Y, given a positive discount rate. Project Y has a higher present value than Project X, given a positive discount rate.Explanation / Answer
Statement II and III are correct , that is option A.
Here is an explaination for the same.
For option II, since the discount rate is 0, the cash flows will not be discounted and the future value at the end of year 4 will be just the sum of all the cash flows. We can see for both the projects, it is same at 31500. Hence this statement is true
For option III, While calculating the PV , cash flows in the beginning years contribute more to the present value as they are discounted by a smaller factor as compared to the cash flows coming towards later years. In these two projects, project X has higher cash flows in the beginning years and lower in the later ones, whereas project Y has lower cash flows in the beginning years and higher towards the end. So given a positive rate the PV of project X would be HIGHER than the present value of project Y. You can cross check it too. Lets take a rate of 1% and calculate the PV of both the projects
As you can see the PV of Project X is higher.
Hence both options II and III are true
Project X Project Y Yr 1 9000 7000 Yr 2 8000 7500 Yr 3 7500 8000 Yr 4 7000 9000 PV@1% 30759.55 30696.46