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# IRR Criterion vs. NPV Method

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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

https://brainmass.com/economics/finance/irr-criterion-vs-npv-method-517321

#### 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.

\$2.19

## Profitability Index versus NPV and Comparing Investment Criteria

1. Profitability Index versus NPV
Hanmi Group, a consumer electronics conglomerate, is reviewing its annual budget in wireless technology. It is considering investments in three different
technologies to develop wireless communication devices. Consider the following cash flows of the three independent projects for Hanmi. Assume the
discount rate for Hanmi is 10%. Further, Hanmi Group has only %15 million to invest in new projects this year.
Year CDMA G\$ Wi-Fi
0 (\$5) (\$10) (\$15)
1 13 10 10
2 7 25 20
3 2 30 50
a. Based on the profitability index decision rule, rank these investments
b. Based on the NPV, rank these investments
c. Based on your findings in (a) and (b), what would you recommend to the CEO of Hanmi Group and why?

2. Comparing Investment Criteria
Consider the following cash flows of two mutually exclusive projects for AZ-Motorcars. Assume the discount rate for AZ-Motorcars is 10%.
Year AZM Mini SUV AZF Full SUV
0 (\$300,000) (\$600,000)
1 270,000 250,000
2 180,000 400,000
3 150,000 300,000
a. Based on the payback period, which project should be accepted?
b. Based on the NPV, which project should be accepted?
c. Based on the IRR, which project should be accepted?
d. Based on this analysis, is incremental IRR analysis necessary? If yes, please conduct the analysis.

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