Reasoning Behind Incremental IRR Engineering Economics Live Class Recording
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- Опубликовано: 6 сен 2024
- Engineering Economics, Rate of Return Analysis, Evaluating mutually exclusive investments with different investment amounts, incremental IRR, internal rate of return, MARR
I find this one to be frustrating because the assumption is that we can pick between two different projects (knowing which one will have a superior rate of return) but then if we choose the cheaper project with the highest IRR, suddenly everyone becomes "dumb" with the remaining $990. :)
If it were up to me, I'd invest in the project that gives the 100% IRR and then use the remaining $990 to do the exact same thing on OTHER projects that aren't mutually exclusive. If I did it once, I can do it again and again. That $990 is valuable and could be put to better uses than being wasted on the project that returns only 20%. Unless there really was nothing else the company could do with the extra money.
I hear what you're saying but for the purpose of illustrating the logic of Incremental IRR we make these types of assumptions that are a bit unrealistic ($10 vs $990, etc.). However, the logic of Incremental IRR is correct and useful in the real world. The point of the video is to explain the reasoning behind it.
Was there actually a correct answer to choose here? Based on what you were saying, it sounds like the remaining money ($990) could be used on similar investments to the one that was just made and we could in theory make way more than just $200 in return if we pick the first option.
Kyle, yes, there is a correct answer. You should select the $1000 investment that earns 20% return. In the other scenario (the $10 investment with 100% return), you must assume only a 10% return on the remaining $990. Although, you "might" find better investments for the $990, there is no guarantee. Therefore, you should not miss the opportunity to earn the $200. Hope that helps!