In this analysis, each technique of the three capital budgeting methods provides a feasible idea of the project. However, it is notable that the IRR and NPV are the most reliable techniques. Thus, the IRR and NPV can be used in selecting the most suitable project for investment. In this scenario, Project A has both high NPV and IRR compared to project B. Conversely, the latter provides a higher payback period. This means that the two projects are mutually exclusive. In evaluating projects during capital budgeting, NPV and IRR are preferred over the payback period. At the same, NPV is preferred over IRR. The basic reason is that NPV takes into account the time value of money where the future cash flows are discounted into the present value. In essence, the discount rate represents the risks of capital cost invested in the project. On the basis of NPV, the project become feasible if NPV is positive while in IRR, the project will only be selected if it is greater than the discount rate (Accept if NPV≥0, IRR≥ Discount rate).
On the other hand, although the payback period provides a rough estimate of the expected period that the project will take to recover the initial cash investment, it ignores various economic factors. Firstly, one of these factors not accounted for in the IRR is the riskiness of the investment. Secondly, payback assumes that it does accrue the cost of interest if it was borrowed capital. Thirdly, this method of project ignores the cash flows that are generated after reaching the payback period. Thus, the investor may not understand the capacity of the project after recovering the capital investor. In essence, project A is the most feasible project as confirmed by the NPV and IRR.
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