Question

Which of the following is not a weakness of using the IRR rule to select among projects?

Group of answer choices

A)The IRR rule systematically prefers short term over long term projects.

B)The IRR rule does not identify projects that add value.

C)The IRR rule has no measure of scale.

Answer 1

Internal Rate of Return

Internal Rate of Return is the rate of discount at which the Net Present Value of all cash flows from a project or an investment is equal to zero. In other words IRR is the discount rate which equates the total present value of cash inflows to Total Outflow.

Weakness of using the IRR rule to select among projects

A)The IRR rule systematically prefers short term over long term projects.

The IRR rule is not appicable for the projects which have long term life. For such projects Net Present Value method is considered to be suitable. Thus the above mentioned is a weakness of IRR.

C)The IRR rule has no measure of scale.

The IRR rule measures the average return of the project, thus the scale of the project has no impact on IRR. In other words the IRR rule has no measure of scale. This is also a weakness of IRR method.

The following is not a weakness of using the IRR rule to select among projects

B)The IRR rule does not identify projects that add value.

The IRR rule is used for the projects which add some kind of value to the company. For example expansion or renovation projects. IRR can be used for taking decision to either the selection or rejection of these kind of projects.

The given statement is wrong, and thus this is not a weaknees of IRR method.