Question

9. What is the intuition behind the IRR rule? Under what conditions will the IRR rule and the NPV rule give the same accept/reject decision?
10. Explain what is meant by ‘mutually exclusive projects’ and why it is generally a bad idea to use IRR to choose between mutually exclusive projects?
11. Using an example of each, explain sunk costs and opportunity costs. Which of these costs should be included in incremental cash flows and which should be excluded?
12. What does the WACC measure? Under what assumptions can the WACC be used to value of project?
13. Argue how having debt in capital structure might be a mitigating factor for agency costs
14. How do taxes affect the choice of debt versus equity?
15. What is the pecking-order theory, and what facts does it seem to explain better than the trade-off model does?
16. Why are both the agency model and the signalling model consistent with the observation that share prices fall for companies that decrease dividends?

Answer 1

9.

Internal rate of return (IRR) for an investment is the percentage rate (% rate) earned on each dollar invested for each period it is invested. IRR is also another term people use for interest (for calculating internal project's return and not for whole company) . Ultimately, IRR gives an investor the means to compare alternative investments (individual) based on their yield.
If all of the project’s negative cash flows precede its positive cash flows, then IRR rule and NPV rule will give the same (accept/reject) result.

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