Which of the following is listed as a con of IRR?

• A. It is easy to interpret
• B. It is secondary to NPV if results contradict (NPV directly relates to wealth of business)
• C. It always provides a perfect measure of performance
• D. It requires no cash flow data

Answer: (B)

IRR can mislead when its ranking clashes with NPV, and in such cases the wealth-maximizing measure should take precedence. NPV shows how much value a project adds in monetary terms, accounting for the cost of capital and the project’s size, whereas IRR only expresses the percentage return. Because of this, when IRR and NPV disagree, the NPV result is the more reliable guide for decisions. IRR also depends on the assumption that interim cash flows are reinvested at the IRR rate, and with non-traditional cash flows it can produce multiple IRRs, which can complicate or distort comparisons. The idea that IRR is easy to interpret is actually a strength, not a drawback, and the other statements about IRR not needing cash flow data or always giving a perfect measure aren’t accurate.