Question

Ranking conflicts can arise if one relies on IRR instead of NPV when:

A) The first cash flow is negative and the remaining cash flows are positive.
B) Projects are independent of one another.
C) A project has more than one NPV.
D) Projects are mutually exclusive.
E) The profitability index is greater than one.

Answer 1

Conflicts in ranking projects can happen when using IRR over NPV, especially for mutually exclusive projects, as IRR doesn't account for project scale or reinvestment rates like NPV does.

Step-by-step explanation:

Ranking conflicts can arise if one relies on the Internal Rate of Return (IRR) instead of the Net Present Value (NPV) when evaluating competing projects, particularly when the projects are mutually exclusive. This is because IRR does not take into account the scale of the project or the re-investment rate of the cash flows as NPV does. Specifically, mutually exclusive projects refer to scenarios where choosing one project precludes investing in the other. Thus, when comparing such projects, the NPV method is generally preferred over IRR since NPV provides an absolute measure of the project's value addition, while IRR could potentially lead to incorrect decisions if used in isolation.