Question

When choosing the "best" project from two competing projects, if there is a conflict between the IRR and NPV choice, do you choose the project with the highest IRR or the one with the highest NPV, and why? Consider the different reinvestment rate assumptions.

Answer 1

Please find below the solution.. let me know if you need any clarification.

if there is a conflict between the IRR and NPV than NPV is the best choice. This is because IRR assume that intermediate cash flow are being reinvested at IRR while NPv assume that intermediate cash flow are being reinvested at required rate/dicounting rate. Also, there could be scenario that project has 2 IRR in case of non-conventional cash flow. IRR may provide misleading outcome and thereofre NPV is more reliable.

Reinvestment assumption may not make senses, example with 100% IRR of a project means that cash flow will be reinvested at 100% rate we will never find such type of investment opportunity to get 100% return. Therefore NPV is best.