The net present value of the first project is $442, while the net present value of the second project is $478. On the basis on net present value alone, the second project is better, but this analysis fails to factor in the additional net present value that could be made by the firm from years 6 to 10 in the project with a 5-year life.

In comparing a project with a shorter life to one with a longer life, the firm must consider that it will be able to invest again with the shorter term project. Two conventional approaches - project replication and equivalent annuities — assume that when the current project ends, the firm will be able to invest in the same project or a very similar one.

Project Replication

One way of tackling the problem of different lives is to assume that projects can be replicated until they have the same lives. Thus, instead of comparing a 5-year to a 10-year project, we can find the net present value of investing in the 5-year project twice and comparing it to the net present value of the 10-year project. Figure 6.5 presents the resulting cashflows:

Figure 6.5: Cash Flows on Projects with Unequal Lives: Replicated with poorer project

Five-year Project: Replicated

Lessons From The Intelligent Investor

Lessons From The Intelligent Investor

If you're like a lot of people watching the recession unfold, you have likely started to look at your finances under a microscope. Perhaps you have started saving the annual savings rate by people has started to recover a bit.

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