If projects are mutually exclusive only one project can be c

If projects are mutually exclusive, only one project can be chosen. The internal rate of return (IRR) and the net present value (NPV) methods will not always choose the same project. If the crossover rate on the NPV profile is below the horizontal axis, the methods will agree. Projects W and X are mutually exclusive projects. Their cash flows and NPV profiles are shown as follows. NPV (Dollars) Year Project W Project X 800 $1,000 $1,500 $350 $500 $600 $750 $200 $350 $400 600 600 Project X 400 4 Project W 200 If the weighted average cost of capital (WACC) for each project is 18%, do the NPV and IRR methods agree or conflict? -200 0 2 4 6 8 10 12 14 16 18 20 The methods conflict. The methods agree COST OF CAPITAL (Percent) A key to resolving this conflict is the assumed reinvestment rate. The IRR calculation assumes that intermediate cash flows are reinvested at the that the rate at which cash flows can be reinvested is the and the NPV calculation implicitly assumes As a result, when evaluating mutually exclusive projects, the is usually the better decision criterion.

Solution

1. Always

2 the method agree

3.IRR assumes immediate cash flow are reinvested at internal rate of return

4.NPV CALCULATIONS implicitly assume that the rate at which cash flow can be reinvested is at required rate of return

5.as a result when evaluating mutually exclusive projects the NPV IS USUALLY better decision criterion