If mutually exclusive projects with normal cash flows are being analyzed, the ne

Question

If mutually exclusive projects with normal cash flows are being analyzed, the net present value (NPV) and internal rate of return (IRR) methods agree. Projects W and X are mutually exclusive projects. Their cash flows and NPV profiles are shown as follows. If the weighted average cost of capital (WACC) for each project is 6%, do the NPV and IRR methods agree or conflict? The methods agree. The methods conflict. A key to resolving this conflict is the assumed reinvestment rate. The IRR calculation assumes that intermediate cash flows are reinvested at the ____________________________________ , and the NPV calculation implicitly assumes that the rate at which cash flows can be reinvested is the . Project X As a result, when evaluating mutually exclusive projects, the is usually the better decision criterion.

Explanation / Answer

ANS: The methods conflicts.

A key to resolving this conflict is the assumed reinvestment rate. The IRR calculation assumes that intermediate cash flows are reinvested at the _Internal rate of return (IRR)_ , and the NPV calculation implicitly assumes that the rate at which cash flows can be reinvested is the Required rate of return.

in case of mutually exclusive projects, the selection criterion are:-

NPV Method:

the projects with higher NPV is selected.

IRR Method:

the project whose IRR is higher than required rate of return is selected.

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