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A resolution to the NPV-IRR debate?

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  • Osborne, Michael J.

Abstract

Two criteria for choosing between capital investment projects are net present value (NPV) and internal rate of return (IRR). Sometimes they provide inconsistent rankings. This inconsistency sparked a debate about which criterion is better. The debate has lasted more than 100 years. This paper describes a new approach to the debate. The time value of money equation is a polynomial, and a polynomial of order n does not have a single root. It has n roots. The result of taking into account the n solutions for IRR is a new equation for NPV that suggests a resolution to the debate.

Suggested Citation

  • Osborne, Michael J., 2010. "A resolution to the NPV-IRR debate?," The Quarterly Review of Economics and Finance, Elsevier, vol. 50(2), pages 234-239, May.
  • Handle: RePEc:eee:quaeco:v:50:y:2010:i:2:p:234-239
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    References listed on IDEAS

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    1. Dorfman, Robert, 1981. "The Meaning of Internal Rates of Return," Journal of Finance, American Finance Association, vol. 36(5), pages 1011-1021, December.
    2. Dirk Brounen & Abe de Jong & Kees Koedijk, 2004. "Corporate Finance in Europe: Confronting Theory with Practice," Financial Management, Financial Management Association, vol. 33(4), Winter.
    3. J. Hirshleifer, 1958. "On the Theory of Optimal Investment Decision," Journal of Political Economy, University of Chicago Press, vol. 66, pages 329-329.
    4. Brounen, D. & de Jong, A. & Koedijk, C.G., 2004. "Corporate Finance In Europe Confronting Theory With Practice," ERIM Report Series Research in Management ERS-2004-002-F&A, Erasmus Research Institute of Management (ERIM), ERIM is the joint research institute of the Rotterdam School of Management, Erasmus University and the Erasmus School of Economics (ESE) at Erasmus University Rotterdam.
    5. Daniel Teichroew & Alexander A. Robichek & Michael Montalbano, 1965. "Mathematical Analysis of Rates of Return Under Certainty," Management Science, INFORMS, vol. 11(3), pages 395-403, January.
    6. Osborne, Michael J., 2005. "On the computation of a formula for the duration of a bond that yields precise results," The Quarterly Review of Economics and Finance, Elsevier, vol. 45(1), pages 161-183, February.
    7. Graham, John R. & Harvey, Campbell R., 2001. "The theory and practice of corporate finance: evidence from the field," Journal of Financial Economics, Elsevier, vol. 60(2-3), pages 187-243, May.
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    Citations

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    Cited by:

    1. Cristian PAUN, 2012. "International Financing Decision: A Managerial Perspective," REVISTA DE MANAGEMENT COMPARAT INTERNATIONAL/REVIEW OF INTERNATIONAL COMPARATIVE MANAGEMENT, Faculty of Management, Academy of Economic Studies, Bucharest, Romania, vol. 13(3), pages 411-425, July.
    2. Dedes, Eleftherios K. & Hudson, Dominic A. & Turnock, Stephen R., 2012. "Assessing the potential of hybrid energy technology to reduce exhaust emissions from global shipping," Energy Policy, Elsevier, vol. 40(C), pages 204-218.
    3. Magni, Carlo Alberto, 2016. "Capital depreciation and the underdetermination of rate of return: A unifying perspective," Journal of Mathematical Economics, Elsevier, vol. 67(C), pages 54-79.
    4. repec:bla:econpa:v:36:y:2017:i:3:p:351-363 is not listed on IDEAS
    5. Weber, Thomas A., 2014. "On the (non-)equivalence of IRR and NPV," Journal of Mathematical Economics, Elsevier, vol. 52(C), pages 25-39.
    6. Sorda, G. & Sunak, Y. & Madlener, R., 2013. "An agent-based spatial simulation to evaluate the promotion of electricity from agricultural biogas plants in Germany," Ecological Economics, Elsevier, vol. 89(C), pages 43-60.
    7. repec:eee:quaeco:v:66:y:2017:i:c:p:108-114 is not listed on IDEAS
    8. Pasqual, Joan & Padilla, Emilio & Jadotte, Evans, 2013. "Technical note: Equivalence of different profitability criteria with the net present value," International Journal of Production Economics, Elsevier, vol. 142(1), pages 205-210.
    9. Achleitner, Ann-Kristin & Engel, Nico & Reiner, Uwe, 2013. "The performance of venture capital investments: Do investors overreact?," Review of Financial Economics, Elsevier, vol. 22(1), pages 20-35.
    10. Andor, Gyorgy & Mohanty, Sunil K. & Toth, Tamas, 2015. "Capital budgeting practices: A survey of Central and Eastern European firms," Emerging Markets Review, Elsevier, vol. 23(C), pages 148-172.
    11. Tańczuk, Mariusz & Ulbrich, Roman, 2013. "Implementation of a biomass-fired co-generation plant supplied with an ORC (Organic Rankine Cycle) as a heat source for small scale heat distribution system – A comparative analysis under Polish and G," Energy, Elsevier, vol. 62(C), pages 132-141.
    12. Wang, S. & Kim, A.A. & Johnson, E.M., 2017. "Understanding the deterministic and probabilistic business cases for occupant based plug load management strategies in commercial office buildings," Applied Energy, Elsevier, vol. 191(C), pages 398-413.

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