Aswath Damodaran – Session 15 (Undergraduate): NPV vs IRR, Side Costs and Side Benefits

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Published on Mar 23, 2016

We started today's class by looking at whether you should hedge risk and came to a mixed conclusion about when it makes sense. We closed the investment analysis by looking at an acquisition as a big investment. We then turned our attention to mutually exclusive investments and why NPV and IRR may give you different answers: a project can have more than one IRR, IRR is biased towards smaller projects and the intermediate cash flows are assumed to be reinvested at the IRR. As to which rule is better, while NPV makes more reasonable assumptions about reinvestment (at the hurdle rate), companies that face capital rationing constraints may choose to use IRR. We closed by comparing projects with different lives and considered how best to incorporate side costs and side benefits into investment analysis.
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