Question

If NPV, IRR and/or PI methods return conflicting results (one rule suggests project A is better the other rule suggests project B is better) your decision primarly will be based on which rule?

Answer #1

Profitability index suffers from many limitations such as that it is difficult to estimate the required rate of return ands that it values short term gains better than long term gains.

The NPV and IRR approaches use different reinvestment rate assumptions so there can be a conflict in project acceptance when mutually exclusive projects are considered.

The NPV methods reinvests cash flow at the WACC and IRR methods reinvests cash flow at the IRR.

Reinvestment at WACC is the superior assumption, so when mutually exclusive projects are evaluated the NPV approach should be used for the capital budgeting decision.

Hence, the NPV method is the better rule.

In case of any query, kindly comment on the solution.

Which of the following is not one of the benefits of using NPV
over IRR to judge a capital budgeting decision?
IRR assumes that cash flows generated from the capital budgeting
decision can be reinvested at the same rate of return as the
project itself, NPV does not.
NPV can be used to judge capital budgeting decisions with
nonstandard cash flows, whereas IRR cannot.
Unlike for IRR, the results from an NPV analysis can be easily
compared to other capital...

(Payback
period, NPV, PI, and IRR
calculations)
You are considering a project with an initial cash outlay of
$75,000
and expected free cash flows of
$26,000
at the end of each year for
5
years. The required rate of return for this project is
7
percent.
a. What is the project's payback period?
b. What is the project's
NPV?
c. What is the project's
PI?
d. What is the project's
IRR?

Which one of the following is TRUE?
The NPV decision rule says to accept an investment if the NPV is
negative.
The IRR decision rule states that a project should be accepted
if its IRR exceeds the required return.
The discount rate that causes the net present value of a project
to equal zero is called the market rate.
IRR is superior to NPV for choosing between different
projects.
Payback ignores the project's cost.

(Payback period, NPV, PI, and IRR calculations) You are
considering a project with an initial cash outlay of $80,000 and
expected free cash flows of $26,000 at the end of each year for 6
years. The required rate of return for this project is 7
percent.
a. What is the project's payback period?
b. What is the project's NPV?
c. What is the project's PI?
d. What is the project's IRR?
a. The project's payback period is nothing years. (Round...

Your firm is considering a project that has an NPV of $32,600,
an IRR of 9.5 percent, and a payback period of 8.9 years. The
required return is 9% and the required payback period is 9 years.
Which one of the following statements correctly applies to this
project?
A) The net present value indicates accept while the internal
rate of return indicates reject.
B) The payback decision rule is sufficient in making the
decision about the project.
C) The payback...

When NPV and IRR rules result in a conflicting decision
regarding acceptance of a project managers could use the MIRR.
It assumes reinvestment of projects' cash flows at the WACC, so
it produces results consistent with NPV method.
Let's try to find the MIRR for the project with the following
cash flows:
Initial cost of -800 at time zero, CF1 = 400, CF 2 = 570, CF3 =
-130.
Here we have two negative cash flows and two positive cash...

1)
If the NPV of a project with one sign reversal is positive, then
its IRR:
Select one:
a. must be greater than the required rate of return
b. must be less than the required rate of return
c. could be greater or less than the required rate of return
d. cannot be determined without actual cash flows
2)
Which of the following statements is INCORRECT?
Select one:
a. An acceptable project should have an NPV greater than or
equal...

6. Understanding the NPV profile If projects are mutually
exclusive, only one project can be chosen. The internal rate of
return (IRR) and the net present value (NPV) methods will not
always choose the same project. If the crossover rate on the NPV
profile is below the horizontal axis, the methods will agree.
Projects Y and Z are mutually exclusive projects. Their cash flows
and NPV profiles are shown as follows. Year Project Y Project Z 0
–$1,500 –$1,500 1...

11-2: Net Present Value (NPV)
11-3: Internal Rate of Return (IRR)
Problem Walk-Through
IRR and NPV
A company is analyzing two mutually exclusive projects, S and L,
with the following cash flows:
0
1
2
3
4
Project S
-$1,000
$888.29
$250
$5
$15
Project L
-$1,000
$0
$240
$420
$765.23
The company's WACC is 10.0%. What is the IRR of the better
project? (Hint: The better project may or may not be the
one with the higher IRR.) Round...

The prevailing interest rate is 8%. If the following three
projects are mutually exclusive, which one should you take? Use
NPV, IRR and Profitability Index to make your decision. Do all
three rules agree?
Project
Year 0
Year 1
Year 2
A
-100
+70
+70
B
-240
+120
+140
C
-370
+50
+400
Select one:
a. Yes they agree. Project C dominates the other two. These are
there calculations
Project
NPV
IRR
PI
A
$ 24.83
25.69%
1.25
B
$ ...

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