Question

Which of the following is a disadvantage of using the net present value method of evaluating an investment proposal? a. It considers the cash flows of the investment. b. It considers the time value of money. c. It can rank projects with equal lives, using the present value index. d. It assumes cash flows can be reinvested at the minimum desired rate of return.

Answer 1

Answer:

The disadvantage of using the net present value method of evaluating an investment proposal is option D) it assumes that cash flows can be reinvested at the minimum desired rate of return.

Explanation:

The net present value (NPV) is used to evaluate how a profitable a project is by taking out how much present value of cash inflows and outflows differ over a defined period of time. Now by using the definition alone it is very clear that the options a) and c) are correct, and option b) represents the most important function of this concept as by considering time value of money it tells that the money available to us in present is worth more than the same amount in future because on this present sum we can earn interest.

So from the above explanation we can say that the first three options are correct and the only disadvantage of using net present value is that here we are reinvesting cash flows at minimum rate of return.