Directions: Capital budgeting involves choosing the projects that add value to the firm. The net present value (NPV), internal rate of return (IRR), and payback period methods are the most common approaches to project selection. At its core, capital budgeting is measuring the worthiness of a project by comparing its costs versus its benefits. In a way, all business decisions are a series of capital budgeting decisions. Get them wrong, and you can destroy a company. The capital budgeting tools help financial managers decide on the desirability of the projects. In the real world, however, managers sometimes will make decisions that don't necessarily agree with the decision rules of the payback period, NPV, or IRR methods. For example, consider the two mutually exclusive projects below. Investments: Project A Cost: $ 50 Cash Flow 1: $ - Cash Flow 2: $ 100 Investments: Project B Cost: $ 50 Cash Flow 1: $ 50 Cash Flow 2: $ 25 According to the payback period, project B should be selected. Although both projects cost the same, project B has a payback period of one period, while project A will payback in roughly 1.5 periods. Assuming the discount rate of 5%, NPV(A) = $41