Which of the following is NOT a problem associated with the internal rate of return (IRR) method for making investment decisions: A) The IRR method determines the discount rate that sets the net present value of a project equal to zero. B) IRR and NPV criteria can give conflicting decisions for mutually exclusive projects C) The IRR method assumes cash flows are reinvested at the investments internal rate of return. D) An investment project may have more than one internal rate of return.
(A)
Your answer: D was incorrect. The correct answer was A) The IRR method determines the discount rate that sets the net present value of a project equal to zero. The IRR method equates an investments present value of inflows to its present value of outflows. The IRR by definition is the discount rate that sets the net present value of a project equal to zero. Therefore, the decision rule for independent projects is as follows: if the IRR is above the firms cost of capital, the project should be accepted, and if the IRR is below the cost of capital, the project should be rejected. A project having multiple IRR’s is new to me.
It does when the project has multiple +, - cash flows. I mean multiple sign changes in the series of cash flows.
Thanks man