Question

If a company accepts all projects by comparing their IRR to the WACC, what will happen?

Answer 1

ANSWER:

The WACC is used in consideration with IRR not necessary for internal performance analysis. IRR gives an evaluator the return they are earning or expect to earn on the projects they are analyzing on an annual basis and also gives a discounted value .IRR provides a rate of return on an annual basis while the ROI gives an evaluator the comprehensive return on a project over the project’s entire life.One of the disadvantages of using the IRR method since it defectively assumes that positive cash flows are reinvested at the IRR.

The rationale behind IRR in an independent project is:

1.If IRR is greater than WACC (IRR>WACC), the project’s rate of return will exceed its costs and as a result the project should be accepted.

2.If IRR is less than WACC (IRR<WACC), the project’s rate of return will not exceed its costs and as a result the project should be rejected.

In mutually exclusive projects, the project with higher IRR must be picked. For example, if IRR on project A is 25% and project B is 30%, project B must be selected.