Question
In 1955, Lorie and Savage published a classic paper on investment appraisal called Three Problems in Rationing Capital that appeared in the The Journal of
In 1955, Lorie and Savage published a classic paper on investment appraisal called Three Problems in Rationing Capital that appeared in the The Journal of Business. One of the three problems concerned the internal rate of return (IRR). They wrote that in some ... circumstances ... the present value of an investment proposal [can] be something other than a steadily decreasing function of the cost of capital. Some investment proposals can intersect the x-axis at more than one point. In particular, investment proposals having initial cash outlays, subsequent net cash in-flows, and final net cash outlays can intersect the x-axis more than once and have, therefore, more than one rate of return. Investments of this nature are rare, but they do occur, especially in the extractive industries.
Expand on this quote from Lorie and Savages article by (a) giving a specific example of the issue described in the last two highlighted sentences, (b) explaining why its a problem and (c) describing what financial analysts do about it.
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