Investment appraisal MCQ

Where did you find this question? The future cash flows are always only estimates and there is the risk that they may be different. If a project is more risky it is better to assume lower cash flows. If it is less risky than we can estimate higher flows. However this is not something we normally do which it was surprises. me about this question. It would have been helpful if you could have typed out the whole question because presumably this is the most sensible of the choices available.

I found it in the Kaplan Exam Kit (it is an older one tho, valid till June 2018) Question: The lower risk of a project can be recognised by increasing which of the following? A) The cost of the initial investment of the project B) The estimates of future cash inflows from the project C) The internal rate of return of the project D) The required rate of return of the project Ans - B

B is the answer, partly for the reason I gave before (even though it would be an unusual thing to do) but also because the others cannot possibly be correct. The initial cost is the one thing we will be certain about. The internal rate of return is completely irrelevant to the risk Increasing the required rate of return is what we would do if there was higher risk, not lower risk.

Sir why is the IRR irrelevant to risk?

The IRR is the rate of interest that gives a NPV of zero. It is not something that we can change.