A higher return percentage can create fewer dollars of value

Two investments can both be attractive but compete for the same opportunity. Management might choose between two operating designs for a site or two mutually exclusive ways to deliver a contract. Explain that constraint before ranking their returns. If both can proceed independently, the decision is different from selecting only one.

Damodaran's corporate-finance material explains that NPV is expressed in money while IRR is a percentage, so projects of different sizes can rank differently. A high percentage on a small base need not create the greatest estimated value. Review the amounts invested and recovered alongside the rate.

For a hypothetical one-year choice, Option A requires $20,000 now and returns $30,000 at year-end. Its IRR is 50%. Option B requires $100,000 and returns $130,000 after the same year, giving an IRR of 30%. Assume both satisfy the operating requirement, only one can be selected, and a 10% appraisal rate is appropriate solely for this illustration.

A has a net present value of about $7,273: $30,000 divided by 1.10, less $20,000. B has an NPV of about $18,182. B's lower percentage accompanies about $10,909 more estimated value. Tax and other differences are excluded to keep the scale comparison clear.

Subtract A's cash flows from B's to inspect the incremental commitment. In the example, B requires another $80,000 and returns another $100,000 one year later. That incremental package has a 25% return and an NPV of about $10,909 at 10%, matching the difference between the two options.

For a real project, identify the operating reason for that extra cash. Does the larger design attract additional demand, reduce cost, improve reliability or merely add unused capacity? Give the incremental benefit its own supporting assumptions. A larger investment does not deserve approval simply because its absolute numbers are larger.

Keep service periods, currencies, tax bases and timing compatible. If one option lasts longer, resolve the unequal-life comparison before interpreting the ranking. If cash flows change sign several times, inspect the return calculation itself. The example's simple, single-receipt structure avoids those complications deliberately.

The larger NPV may require cash the company cannot presently commit. Show the funding schedule and the other investments it would displace. Under a constrained capital budget, compare feasible combinations of projects and relevant later obligations. Selecting the largest NPV from a list without considering those constraints can still produce an infeasible plan.

Where finance is available, assess its actual terms and the company's downside capacity. A project-value calculation is conditional on its assumptions; it is not a lender's approval or a statement that the business can absorb every adverse outcome. Record what must be resolved before the larger commitment becomes actionable.

Ask the adviser to present the recommendation with the reason for the choice, the incremental economics and any binding constraint. Retain both alternatives in the approval file. Management should be able to explain why it accepted a lower percentage, or why it chose the smaller commitment despite a higher estimated dollar value elsewhere.