D Question 10 5 pts Anadarko Petroleum must choose between t

D Question 10 5 pts Anadarko Petroleum must choose between two mutually exclusive oil-drilling projects, which each have a cost of $12 million. Under Plan A all oil would be extracted in one year, producing a cash flow at t-1 of $14.4 million. Under Pan B cash flows would be $2.1 million for 20 years. The firm\'s WACC is 12%. At what rate are the NPVs for these two plans the same? That is, what is the crossover rate where the two projects\' NPVs are equal? Your answer should be between 12.25 and 17.15, rounded to 2 decimal places, with no special characters.

Solution

First we will calculate NPV for both projects at given WACC, at 12%.

NPV of Plan A= -12+14.4/1.12= $0.86

NPV of Plan B= -12+(2.10*((1-(1.12)^-20)/0.12)) = $3.69

The difference in NPV of the both project is $2.83

Crossover rate is the rate at which both Plans have equal NPV. This will be solved using hit and trail method as length of the plans are not equal.

at 15%.

NPV of Plan A= -12+14.4/1.15= $0.52

NPV of Plan B= -12+(2.10*((1-(1.15)^-20)/0.12)) = $1.14

The difference in NPV of the both project is $0.62

at 17%.

NPV of Plan A= -12+14.4/1.17= $0.31

NPV of Plan B= -12+(2.10*((1-(1.17)^-20)/0.12)) = $-0.18

The difference in NPV of the both project is -$0.49

Hence cross over rate is between 15 and 17%

at 16.07%.

NPV of Plan A= -12+14.4/1.1607= $0.41

NPV of Plan B= -12+(2.10*((1-(1.12)^-20)/0.12)) = $0.40

The difference in NPV of the both project is $0.01 whichis approx. equal to zero

Thus 16.07% is the answer