NPV Vs IRR
NPV and IRR always lead to the same accept/reject decision for independent projects
When IRR> WACC –>
this implies that the return is more than the cost and hence one should accept the project
When NPV > 0 (represented by the blue line) –>
this implies that the shareholder’s return is positive and hence the project has to be accepted.
this implies that the return is more than the cost and hence one should accept the project
When NPV > 0 (represented by the blue line) –>
this implies that the shareholder’s return is positive and hence the project has to be accepted.
Vice versa is also true. This is represented by the yellow rectangle.
However, NPV and IRR leads to conflicting decisions when they are mutually exclusive projects. Do you know why?
When there is a conflicting decision on accepting or rejecting a project, NPV is always more superior. Why?
1. NPV assumes reinvest at r (opportunity cost of capital).
2. IRR assumes reinvest at IRR.
3.Reinvest at opportunity cost, r, is more realistic, so NPV method is best. NPV should be used to choose between mutually exclusive projects.