Forums › Ask ACCA Tutor Forums › Ask the Tutor ACCA FM Exams › NPV and IRR
- This topic has 6 replies, 2 voices, and was last updated 3 years ago by John Moffat.
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- November 14, 2020 at 12:55 am #594949
From experience, can two 5 year projects have NPV that are close in value say £50,000 but the IRR of the project with a higher NPV value (£450,000) be more than double that with NPV of £400,000.
I was expecting IRR to be close as well. IRR of 15% vs IRR of 7.56%.
November 14, 2020 at 10:15 am #594975It can happen. It depends on the amounts of the flows and the timing of them.
(It is very unusual in the exam to be asked to calculate the IRR’s of two projects)
November 14, 2020 at 12:23 pm #594992Thanks Mofat
November 14, 2020 at 2:26 pm #595001What about a case a project has a higher NPV but lower IRR when compared to another project?
For example One project has NPV of €450,000 and an IRR of 7.5% while the other has NPV of €400,000 but an IRR of 15%.
November 14, 2020 at 3:14 pm #595012Assuming it is a one-off decision and the projects are mutually exclusive (i.e. we can only do one of the projects) then we choose the one with the highest NPV.
I explain the reasons for this in my free lectures.
November 14, 2020 at 4:01 pm #595019Thanks for the response. Yes, they are actually mutually exclusive projects. The mystery for me here is, Ideally one would expect IRR to be higher when NPV is higher. But that’s not the case here. The IRR is lower for the one with higher NPV.
From experience which project would be ideal to choose for execution. If there any of the lectures that addresses this, kindly direct me as well.
November 14, 2020 at 4:57 pm #595024Why would you expect the IRR to be higher just because the NPV is higher? The IRR is not a real return – it is (by definition) the rate of interest at which the NPV is zero.
As I wrote before, if it is a one-off decision (as it always is in the exam) then we choose the one with the highest NPV.
Again, it is rare for the examiner to ask for the IRR for project appraisal. When the calculation is required it is usually for the calculation of the cost of debt.
My lectures on investment appraisal address this (although the lectures should be watched in chapter order because they are a complete free course and chapters build on each other). It is also covered in my Paper MA (was F2) lectures on investment appraisal, because this is revision of Paper MA.
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