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Capital Budgeting The Alpha Plc

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By taking this factor into consideration the NPV gives a correct estimate of the project profitability. Moreover, the NPV method considers the project cash flows for the entire project duration as it is possible that some projects have higher inflows towards the end of the project tenure. However, this is ignored in methods like Payback which does not consider the project cash flows towards the end of the project duration. For this reason, NPV is superior to the Payback method. NPV method also provides information on whether the project has been able to create value for the company (Girvin, n.d.). Another method that is very popular among the executives is the Internal Rate of Return (IRR). This method is simple to understand but NPV is given preference over IRR in the case of mutually exclusive projects. NPV estimates the value of the project more accurately as compared to IRR. The reason for this is that the NPV method finds out the true value of the project to the business (Mount Holyoke College, n.d.). While estimating NPV necessary adjustments can be made with regard to the risk of the project. Like for a project with a higher risk the company can use a higher discounting rate and for the project with a lower risk the company can use a lower discounting rate. This is not possible in the case of other methods. For all these reasons the NPV method has been considered for the purpose of evaluating the project.