Statement – I : In general, the NPV and IRR methods lead to the same acceptance or rejection decision when a single project is involved. Statement – II : The inconsistency in ranking of competing projects as per the NPV and IRR methods lies in the implicit assumptions with regard to different rates of returns on re-investment of intermediate cash flows. Code :
Both the statements are correct
Both statements compare the net present value (NPV) and internal rate of return (IRR) techniques of capital budgeting, and each must be judged separately for truth.
Statement I says that for a single project the two methods lead to the same accept or reject decision. This is true. For one conventional, independent project (an outflow followed by inflows), a positive NPV always corresponds to an IRR greater than the cost of capital, and a negative NPV to an IRR below it. So both signals agree; conflicts between NPV and IRR arise only when ranking two or more mutually exclusive projects, not in a lone accept/reject test.
Statement II says the main difference between the two methods lies in their implicit reinvestment assumption for intermediate cash flows. This is also true and is the deeper theoretical point. NPV implicitly assumes that interim cash inflows are reinvested at the firm's cost of capital, whereas IRR implicitly assumes they are reinvested at the project's own internal rate of return. This difference is what can make the two methods rank competing projects differently.
Since both statements are individually correct, the first code applies.
Hence both statements are correct.
Similar Questions
A public works project is proposed that has total present-worth benefits of ₹ 75 million and total present-worth cost of ₹ 55 million. In deliberating this proposal, some members of the Municipal Board have suggested that the project has a total present-worth disbenefits of ₹ 15 million; other members feel that ₹ 15 million should be treated as a cost. What will be the benefit cost ratio and net benefits value while considering the disbenefits as a cost?
Select the correct statement/s from the following :
Statement I : The slope of the NPV profile reflects how sensitive the project is to discount rate changes.
Statement II : To find total NPV of more than one projects, their NPV cannot be added.
Statement III : The certainty equivalent coefficient applies adjustments to both, the cash flows (in the numerator) and the discount factor (in the denominator).
Statement IV : The risk - adjusted discount factor applies adjustment for risk only to the discount factor (denominator).
Codes :
Indicate the correct code of the combinations of the following methods commonly used for capital budgeting:
a. Payback Period
b. Profitability Index
c. Utility theory
d. Internal rate of return
Codes:
NPV and IRR methods of investment evaluation may give divergent accept-reject decisions on account of which of the following?
a. Varying initial investment
b. Divergent cash flows from the investment projects
c. Disparity in the lives of the investment projects
Indicate the correct code of their combinations.
Codes:
Under the Modified Accelerated Cost Recovery System (MACRS) an asset in the “5 year property class” would typically be depreciated over how many years ?
Select the correct statement/s from the following:
Statement I: The slope of the NPV profile reflects how sensitive the project is to discount rate changes.
Statement II: To find total NPV of more than one projects, their NPV cannot be added.
Statement III: The certainty equivalent coefficient applies adjustments to both, the cash flows (in the numerator) and the discount factor (in the denominator).
Statement IV: The risk-adjusted discount factor applies adjustment for risk only to the discount factor (denominator).
Codes:
The capital budgeting appraisal criterion that is most appropriate in the situation of capital rationing will be:
For computation of cost of equity, arrange the following measures in the ascending order of accuracy:
I. Capital Asset Pricing Model
II. Dividend-Price Ratio
III. Earning-Price Ratio
IV. Dividend-Price Plus Growth Ratio
Which of the following are the assumptions of Modigliani and Miller’s Dividend Irrelavance Theory ?
A. Perfect Capital Market
B. No taxes
C. No transaction Cost and no time lag
D. Fixed Investment Policy
E. Investors behave irrationally
Choose the correct answer from the options given below :
Match the correct options for the following capital budgeting appraisal criteria:
List - I List - II a. The criterion based on the cash flows of a limited period. i. Internal Rate of Return b. The criterion based on profit over life of the project. ii. Pay-back Method c. The criterion that considers cash flows over the life of project which considered the time value of money. iii. Accounting Rate of Return d. The criterion that derives the outcomes in terms of the rate of return considering the cash flows over the life of project with the time value of money. iv. Net Present Value
Important Questions from Capital Budgeting
A firm is currently earning Rs. 50,000 and its one share has a present market value of Rs. 175. It has 5,000 shares outstanding. The earnings of the firm is expected to remain stable and it has a payout ratio of 100%. The cost of equity is:
With project cost of ₹300 lacs, profits after depreciation (straight line method) and tax for its lifetime of 5 years are estimated at ₹10 lacs, ₹10 lacs, ₹30 lacs, ₹40 lacs and ₹50 lacs respectively. The cost of capital is 12% and discount factors @ 12%, for the first five years are 0.89, 0.80, 0.71, 0.64 and 0.57 respectively. The Net present value of project is :
Match List I with List II
LIST I
(Investment Decision rule)
LIST II
(Feature)
A. NPV I. Insufficiently consistent B. Payback II. Highly Inflexible C. Cash Returns III. Balance between flexibility and consistency D. Accounting Returns IV. Relatively consistent Choose the correct answer from the options given below:
If the Net Present Value (NPV) of an investment proposal is positive, what conclusions can be drawn?
A. The investment generated present value of cashflows exceed cost of investment
B. The discount rate used is less than the investments estimated return
C. The discount rate used equals the minimum return required by the investors
D. The investment generated present value of cashflows equals the cost of investment
E. The investment's Internal Rate of Return (IRR) exceeds the Cost of Capital
Choose the correct answer from the options given below:
Arrange (in descending order) the following present value of a growing perpetuity which makes first payment of Rs. 3,000 in next year.
A. Present value at 8% growth and 10% discount rate.
B. Present value at 3% growth and 9% discount rate.
C. Present value at 6% growth and 11% discount rate.
D. Present value at 5% growth and 6% discount rate.
E. Present value at 1% growth and 4% discount rate.
Choose the correct answer from the options given below
