Question

In: Finance

The NPV method and the IRR method will always produce the same decision when a. All...

The NPV method and the IRR method will always produce the same decision when

a.

All of the answers are correct.

b.

mutually exclusive projects are evaluated.

c.

a single project is evaluated.

d.

a limited number of projects must be selected from a large number of opportunities.

Expert Solution

The correct answer to the question is option (c). NPV method and IRR method will always produce the same decision when a single project is evaluated.

Now, let's look at the options one by one.

Option (b)
Two projects are said to be mutually exclusive if a firm can undertake only one of them. In the case of mutually exclusive projects, the NPV method and the IRR method could produce different decisions. For instance, consider the following two projects with a discount rate of say 10%:

	Cash flow in Year 0	Cash flow in Year 1	NPV	IRR
Project A	(10,000)	30,000	17,273	200%
Project B	(25,000)	50,000	20,455	100%

While project A is better if the IRR of the projects are considered, project B is better if the NPV is considered. The decisions are not the same. So option (b) is wrong.

Option (c)
If the above mentioned projects are evaluated individually, both the NPV method and the IRR method produce the same decision (to accept) for each project (at a discount rate of 10%).

Option (d)
For option (d) too, the rationale applied for option (b) can be applied. If there are a number of projects to choose from and both NPV and IRR methods are applied to the projects, the NPV method and the IRR method might produce different decisions. So option (d) is wrong.

Since, option (c) is the only correct answer, option (a) is wrong.

jeff jeffy answered 5 months ago

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