1.

What are the Merits and Demerits of Payback, NPV,

IRR, ARR?
Net Present Value (NPV)
Advantages Of Net Present Value (NPV)

1. NPV gives important to the time value of money.

2.In the calculation of NPV, both after cash flow and
before cash flow over the life span of the project are
considered.
3. Profitability and risk of the projects are given high
priority.
4. NPV helps in maximizing the firm's value.

Disadvantages Of Net Present Value (NPV)

1. NPV is difficult to use.

2. NPV can not give accurate decision if the amount of
investment of mutually exclusive projects are not

equal.
3. It is difficult to calculate the appropriate discount
rate.
4. NPV may not give correct decision when the projects
are of unequal life.

IRR
Advantages of Internal Rate of Return:

1) This technique gives equal importance to all the cash

flows. We just need to identify the point at which the
present value of cash inflow is equal to present value of
cash outflow.

2) It is a good method of capital budgeting. The IRR method

is considered more popular and straightforward than the
NPV approach.

3) IRR can be used to rank different prospective projects

and the project with the highest IRR would be considered

the best.

4) This method considers the time value of money and is

therefore more realistic than the Accounting Rate of
Return (ARR) method.

The Disadvantages of Internal Rate of Return:

1) This technique can be difficult to understand.

2) IRR does not take into account of the cost of capital,

thus it should not be used to compare projects of different
duration.

3) The IRR could be difficult to find if we want to

calculate it by using trial and improvement.

4) It fails to recognize the varying size of different

investment projects.

Pay Back Period

Advantages of using Accounting rate of return:

1) The main advantage is that it is easy to understand

and calculate.

2) This is a simple capital budgeting technique and is

widely used to provide a guide to how attractive an
investment project is.

3) Another advantage is familiarity. The ARR concept is a

familiar concept to return on investment (ROI), or return on
capital employed.

The disadvantages of using Accounting rate of return:

1) This technique is based on profits rather than cash flow.

Therefore it can be affected by non-cash items such as the
depreciation and bad debts when calculating profits. The
change of methods for depreciation can be manipulated
and lead to higher profits.

2) This technique does not adjust for the risk to longer term
forecasts.

3) ARR does not take into account the time value of money.

4) This technique can be calculated in a wide variety of

ways and hence lead to different outcomes.