Question

In your opinion, what are the three major differences between the Net Present Value Rule of capital budgeting and the Internal Rate of Return Rule of capital budgeting? Justify your choice of three differences as being the most significant. (minimum 200 words)

Answer 1

Net present value and internal rate of return are two methods of selecting project in capital budgeting and they are having various differences which are listed as follows-

A. Internal rate of return is a rate of return at which discounted cash inflows will be equating discounted cash outflows where as NET present value is a method of odetermination of positive net cash or negative net cash from a project at the present by applying a discounting rate.

B. Net present value is determined in absolute terms where as internal rate of return will be determined in percentage terms like net present value will be determined in numbers whereas internal rate of return will be determined in percentages.

C. Net present value will be used in order to determine the surplus available to a business by application of a discounting rate to cash inflows and cash outflows in the future where as internal rate of return is used to determine the point at which there be no profit no loss, so it acts like a break even point.

D. Net present value will be generally used in decision making where as internal rate of return is not used in decision making and net present value is a better method.