Ranking of Mutually Exclusive Investment Projects: How Cash Flow Differences can solve the Ranking Problem

Abstract

The discussion about the best method to be used in capital budgeting has been long and intensive. Differences between Net Present Value and Internal Rate of Return seem to cause everlasting problems, while especially the Internal Rate of Return often is neglected as an appropriate measure. A famous example of the problems caused by the different approaches is the ranking of mutually exclusive projects. The following paper is presenting an easy explanation, without introducing new and more complicated measures, but by simply explaining the nature of and differences between Net Present Value and Internal Rate of Return.Capital budgeting, internal rate of return, net present value, ranking problem, incremental approach, reinvestment rate