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IRR Criterion vs. NPV Method

A firm is considering Projects S and L, whose cash flows are shown below. These projects are mutually exclusive, equally risky, and not repeatable. The CEO wants to use the IRR criterion, while the CFO favors the NPV method, and you were hired to advise the firm on the best procedure. If the CEO's preferred criterion is used, how much value will the firm lose as a result of this decision?

WACC: 3.00%
0 1 2 3 4
CFS -$1,025 $375 $380 $385 $390
CFL -$2,150 $750 $759 $768 $777

Solution Preview

Please refer attached file for better clarity of functions in MS Excel.

IRR Criteria

Year End CFS CFL
0 -1025 -2150
1 375 750
2 380 759
3 385 768
4 390 777
IRR 18.06% 15.58%

IRR is ...

Solution Summary

Solution describes the steps to select the appropriate project based upon IRR and NPV methods. It also calculates the value lost by the company if it prefers IRR method over NPV method. IRR is calculated by using suitable built-in function in MS Excel.

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