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One of the main in-built assumption of IRR is that cash flows are reinvested at the project’s IRR.
Can someone please explain this assumption with numbers? And/Or what it really means in other words/terms?
It is only an ‘inbuilt assumption’ if IRR’s are being used to choose between two projects.
The better of two projects is always the one giving the higher NPV.
If one project had an IRR of 10% and lasted for 5 years, whereas another project had an IRR of only 9% but was lasting for 20 years, then you could not automatically say that the first one was better. However if the returns from both projects were being reinvested at the same IRR’s then the first one would be giving 10% for ever and the second one would be giving 9% for ever. If that were the case the the first would be the best and would give the highest NPV.
However the chances of any of this being relevant for Paper AFM are remote. We always make decisions based on the NPV. If you want more than watch my free lectures on this for Paper FM because it was in Paper FM that is was a little more relevant 🙂
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