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 W and X are mutually exclusive projects. Their cash flows and NPV profiles are shown as follows. NPV (Dollars Year Project W Project X 800 $1,000 $1,500 $350 $500 $600 $750 $200 $350 $400 $600 600 Project X 400 4 Project W 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 COST OF CAPITAL (Percent O The methods agree The methods conflict. A key to resolving this conflict is the assumed reinvestment rate. The NPV calculation implicitly assumes that intermediate cash flows are reinvested at the assumes that the rate at which cash flows can be reinvested is the , and the IRR calculation As a result, when evaluating mutually exclusive projects, the is usually the better decision criterion