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NPV vs. IRR

Many authors say that the NPV technique is the most desirable for capital investment analysis, yet surveys of managers consistently indicate that IRR is the most popular technique in practice. Why do you suppose this discrepancy exists?

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NPV assumes reinvest at r (opportunity cost of capital). IRR assumes reinvest at IRR. Reinvest at opportunity cost, r, is more realistic, so NPV method is best. NPV should be used to choose between mutually exclusive projects. MIRR correctly assumes reinvestment at opportunity cost = WACC. MIRR also avoids the problem of multiple IRRs.

Managers like rate of return comparisons, and MIRR is better for this than IRR.
Investment projects are said to be mutually exclusive when only one investment could be accepted and others would have to be excluded.

Two independent projects may also be mutually exclusive if a financial constraint is imposed.
The IRR can be a problem if cash flows are not conventional ...

Solution Summary

This solution explains the NPV technique, and describes why it's the most desirable for capital investment analysis, yet surveys of managers consistently indicate that IRR is better.

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