The firm should accept the project because it has a positive NPV. However, the discounted payback method is inconsistent with shareholder wealth maximization because the method ignores some cash flows that contribute to the present value of investment.
What are two reasons for the superiority of the NPV method in evaluating capital investment projects? …show more content…
This is because the NPV is an absolute measure of a project’s worth. In addition, NPV has a more realistic reinvestment rate assumption than IRR. It implicitly assumes reinvestment of intermediate cash inflows at the required rate of return. Both reasons supporting the superiority of the NPV method assume that managers invest the cash flows from the investment for the benefit of shareholders. In summary, no other capital budgeting technique does a better job of measuring wealth creation than the NPV