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Which of the following is a true statement? 1. IRR is the best cash flow evaluation...

Which of the following is a true statement? 1. IRR is the best cash flow evaluation method and Payback is the worst method. 2. NPV is the best cash flow evaluation method and IRR is the worst method. 3. NPV is the best cash flow evaluation method and Payback is the worst method. 4. PI is the best cash flow evaluation method and IRR is the worst method.

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Answer #1

Correct Option is 3

NPV is the best method since it is an absolute approach to determine if the projected cash flows would add any to the firm or would deplete the firm value. Being an absolute method, it is not impacted by the timing or size of cashflows and also accounts for time value of money.

Payback is the worst method given it does not account for the time value of money. Hence, even though the project may seem to be profitable by using payback method, that may turn to be a loss making project when time value of money is accounted in the cashflows.

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