6. Understanding the NPV profile If an independent project with conventional, or normal, cash flows is being analyzed, the net present value (NPV) and internal rate of return (IRR) methods agree Projects Y and Z are mutually exclusive projects. Their cash flows and NPV profiles are shown as follows. NPV (Dollars Year Project Y Project Z 0 -$1,500-$1,500 $900 $600 $300 $200 800 $200 $400 $600 $1,000 600 Project Y 400 4 Project Z 200 If the weighted average cost of capital (WACC) for each project is 2%, do the NPV and IRR methods agree or conflict? 200 0 2 4 6 8 10 12 14 16 18 20 The methods conflict. O The methods agree COST OF CAPITAL (Percent A key to resolving this conflict is the assumed reinvestment rate. The IRR calculation assumes that intermediate cash flows are reinvested at the that the rate at which cash flows can be reinvested is the , and the NPV calculation implicitly assumes As a result, when evaluating mutually exclusive projects, the is usually the better decision criterion