After concluding the result it was find out from the sum and mean that 52.

50% authors are in

favor the point, NPV is better than IRR. On the other hand 10% have the view that IRR is better
than NPV. Remaining 37.50% have the view that in some cases IRR is better and in some cases
NPV is better. IRR is better when projects are individual and NPV is better when projects are
mutually exclusive. Same results were found when analyzed views under different disciplines. At
the end it was proved that NPV is better than IRR. So hypothesis is accepted. Thus NPV is better
than IRR.
Key differences between the most popular methods, the NPV (Net Present Value) Method and
IRR (Internal Rate of Return) Method, include:
NPV is calculated in terms of currency while IRR is expressed in terms of the percentage return
a firm expects the capital project to return;
Academic evidence suggests that the NPV Method is preferred over other methods since it
calculates additional wealth and the IRR Method does not;
The IRR Method cannot be used to evaluate projects where there are changing cash flows (e.g.,
an initial outflow followed by in-flows and a later out-flow, such as may be required in the case
of land reclamation by a mining firm);
However, the IRR Method does have one significant advantage managers tend to better
understand the concept of returns stated in percentages and find it easy to compare to the
required cost of capital; and, finally,
While both the NPV Method and the IRR Method are both DCF models and can even reach
similar conclusions about a single project, the use of the IRR Method can lead to the belief that a
smaller project with a shorter life and earlier cash inflows is preferable to a larger project that
will generate more cash.
Applying NPV using different discount rates will result in different recommendations. The IRR
method always gives the same recommendation.
NPV is the best tool if the projects are mutually exclusive. There could be one project with an
investment of $10 million with IRR of 10% and another project with $5 million investment with
the IRR as 11%. If the projects are mutually exclusive, IRR could mislead you into taking the
second project. In general, IRR is not a great tool if you have to choose among multiple
investment alternatives. IRR is a good tool when you have to decide if you want to invest in a
particular project or not. IRR gives you a single rate that you can compare to the cost of
capital/interest rate. If this is the only project you have and the IRR is greater than cost of capital,
you go for it. IRR also helps you understand how much risk margin you have. IRR is often used
in VC deals as the investor has multiple cash outflows and often a single cash inflow (sale of the

company's stock to IPO). The academics love the NPV as it is more rigorous. However,
executives prefer IRR as it is simple and intuitive that conveys how efficient an investment is.
Net Present Value (NPV) vs. Internal Rate of Return (IRR):
It does not understand economies of scale and ignores dollar value of the project. It cannot
differentiate between two projects with same IRR but vast difference between dollar returns. On
the other hand, NPV talks in absolute terms and therefore this point is not missed.
IRR assumes discounting and reinvestment of cash flows at the same rate. If the IRR of a very
good project is say 35%, it is practically not possible to invest money at this rate in the market.
Whereas, NPV assumes a rate of borrowing as well as lending near to the market rates and not
absolutely impractical.
IRR enters the problem of multiple IRR when we have more than one negative net cash flow and
the equation is then satisfied with two values, therefore, have multiple IRRs. Such a problem
does not exist with NPV.
NPV and IRR: Differences, Similarities and Conflicts | Capital Budgeting
Let us make an in-depth study of the difference, similarities and conflicts between Net
Present Value (NPV) and Internal Rate of Return (IRR) methods of capital budgeting.
Differences between Net Present Value and Internal Rate of Return:
(i) In the net present value method, the present value is determined by discounting the future
cash flows of a project at a predetermined or specified rate called the cut off rate based on cost of
capital.
But under the internal rate of return method, the cash flows are discounted at a suitable rate by
hit and trial method which equates the present value so calculated to the amount of the
investment. Under IRR method, discount rate is not predetermined or known as is the case in
NPV method.
(ii) The NPV method recognizes the importance of market rate of interest or cost of capital. It
arrives at the amount to be invested in a given project so that its anticipated earnings would
recover the amount invested in the project at market rate.
Contrary to this, the IRR method does not consider the market rate of interest and seeks to
determine the maximum rate of interest at which funds invested in any project could be repaid
with the earnings generated by the project.
(iii) The basic presumption of NPV method is that intermediate cash inflows are reinvested at the
cut off rate, whereas, in the case of IRR method, intermediate cash flows are presumed to be
reinvested at the internal rate of return.
(iv) The results shown by NPV method are similar to that of IRR method under certain
situations, whereas, the two give contradictory results under some other circumstances. However,
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it must be remembered that NPV method using a predetermined cut -off rate is more reliable than
the IRR method for ranking two or more capital investment proposals.
Similarities of Results under NPV and IRR:
Both NPV and IRR methods would show similar results in terms of accept or reject
decisions in the following cases:
(i) Independent investment proposals which do not compete with one another and which may be
either accepted or rejected on the basis of a minimum required rate of return.
(ii) Conventional investment proposals which involve cash outflows or outlays in the initial
period followed by a series of cash inflows.
The reason for similarity of results in the above cases lies in the basis of decision-making in the
two methods. Under NPV method, a proposal is accepted if its net present value is positive,
whereas, under IRR method it is accepted if the internal rate of return is higher than the cut off
rate. The projects which have positive net present value, obviously, also have an internal rate of
return higher than the required rate of return.
Conflict between NPV and IRR Results:
In case of mutually exclusive investment proposals, which compete with one another in such a
manner that acceptance of one automatically excludes the acceptance of the other, the NPV
method and IRR method may give contradictory results, The net present value may suggest
acceptance of one proposal whereas, the internal rate of return may favor another proposal.
Such conflict in rankings may be caused by any one or more of the following problems:
(i) Significant difference in the size (amount) of cash outlays of various proposals under
consideration.
(ii) Problem of difference in the cash flow patterns or timings of the various proposals, and
(iii) Difference in service life or unequal expected lives of the projects.
In such cases, while choosing among mutually exclusive projects, one should always select the
project giving the largest positive net present value using appropriate cost of capital or
predetermined cut off rate. The reason for the same lies in the fact that the objective of a firm is
to maximize shareholders wealth and the project with the largest NPV has the most beneficial
effect on share prices and shareholders wealth.
Thus, the NPV method is more reliable as compared to the IRR method in ranking the mutually
exclusive projects. In fact, NPV is the best operational criterion for ranking mutually exclusive
investment proposals.

Illustration:
A firm whose cost of capital is 10% is considering two mutually exclusive projects A and B,
the cash flows of which are as below:

Suggestion:
According to the Net Present Value Method, investment in Project B is better because of its
higher positive NPV; but according to the IRR method Project A is a better investment because
of the higher internal rate of return. Thus, there is a conflict in ranking of the two mutually
exclusive proposals according to the two methods. Under these circumstances, we would suggest
to take up Project B which gives a higher net present value because in doing so the firm will be
able to maximize the wealth of the shareholders.

Which financial evaluation technique, NPV or IRR, is better to use when selecting the best
project among a number of mutually exclusive projects, and why?
The process for selecting capital projects can require much thought and analysis. Many financial
evaluation methods have been employed to determine whether to accept or reject a project.
Choosing the correct method for ranking projects can be complicated when a choice must be
made between mutually exclusive projects. (When projects are mutually exclusive, only one
project can be chosen and the others must be abandoned.) The choice in this case must be made
based on the ranking of projects in order of increasing shareholder wealth. Choices are made
based on various financial evaluation methods, one of which is to discount future net cash flows
into present value terms using the cost of capital or a discount rate. Net Present Value (NPV) and
Internal Rate of Return (IRR) are the most common methods for ranking projects in terms of the
present value of future cash flows. This article will help decision makers determine which of
these two evaluation methodsNPV or IRRis better for evaluating mutually exclusive
projects.
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Net Present Value Method: The Net Present Value (NPV) Method is a method of ranking
investment proposals using the NPV, which is equal to the present value of future net cash flows,
discounted at the marginal cost of capital.1 The equation for NPV is as follows:

In this equation, CFt represents the expected cash flow at the Period t, k represents the cost of
capital, and n is the life of the project. When NPV is zero, the projects cash flows are great
enough to meet the projects required rate of return and pay back the capital invested. When
NPV is positive, there are enough cash flows to pay back the projects debt and provide a return
to shareholders. NPV is also expressed as a dollar value, which provides a good indicator of
profitability and growth in shareholder wealth.
Internal Rate of Return Method: he Internal Rate of Return (IRR) Method is a method of
ranking investment proposals using the rate of return on an investment, calculated by finding the
discount rate that equates the present value of future cash inflows to the projects cost 1. It is the
rate that forces NPV to equal 0 as shown in the following equation.

The IRR is always expressed as a percentage. For a project to be acceptable under the IRR
method, the discount rate must exceed the projects cost of capital, otherwise known as the
hurdle rate. An IRR less than the hurdle rate represents a cost to shareholders, while an IRR
greater than the hurdle rate represents a return on investment, increasing shareholder wealth.
We must first analyze the reinvestment rate assumptions for each evaluation method. The NPV
method assumes that cash flows will be reinvested near or at the projects current cost of capital,
while the IRR method assumes that the firm can reinvest cash flows at the projects IRR. The
assumption that the firm will reinvest its cash flows at the current cost of capital is more realistic
than the assumption that cash flows can be reinvested at the projects IRR. This is because the
IRR may not reflect the true rate at which cash flows can be reinvested. To correct this problem,
a modified IRR (MIRR) is used that incorporates the cost of capital as the reinvestment rate;
however, the NPV method still has the advantage when compared to the MIRR method (an
example is when IRR and MIRR methods return conflicting results under certain project
conditions).
The NPV and IRR methods will return conflicting results when mutually exclusive projects
differ in size, or differences exist in the timing of cash flows. When mutually exclusive projects
exhibit these attributes, their NPV profiles will cross when plotted on a graph. This point at
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which they cross is defined as the crossover rate, which happens because one projects NPV is
more sensitive to the discount rate caused by the differences in the timing of cash flows. In most
cases, utilizing either the NPV or IRR method will lead to the same accept-or-reject decision. An
exception exists when evaluating mutually exclusive projects with crossing NPV profiles and the
cost of capital is less than the crossover rate. When these conditions are present, the NPV and
IRR results will conflict in which project to accept or reject. Because the NPV method uses a
reinvestment rate close to its current cost of capital, the reinvestment assumptions of the NPV
method are more realistic than those associated with the IRR method.
NPV also has an advantage over IRR when a project has non-normal cash flows. Non-normal
cash flows exist if there is a large cash outflow during or at the end of the project. The presence
of non-normal cash flows will lead to multiple IRRs. Hence, the IRR method cannot be
employed in the evaluation process. Mathematically, this problem will not occur if the NPV
method is employed. The NPV method will always lead to a singular correct accept-or-reject
decision.
In conclusion, NPV is a better method for evaluating mutually exclusive projects than the IRR
method. The NPV method employs more realistic reinvestment rate assumptions, is a better
indicator of profitability and shareholder wealth, and mathematically will return the correct
accept-or-reject decision regardless of whether the project experiences non-normal cash flows or
if differences in project size or timing of cash flows exist.