Internal Rate of Return (IRR) Rule: Two Fatal Flaws

The two fatal flaws of the internal rate of return (IRR) rule are:

• Arbitrary determination of a discount rate: The IRR calculation relies on a chosen discount rate, which is often subjectively determined and can significantly impact the results.
• Failure to correctly analyze mutually exclusive investment projects: The IRR rule may not always accurately rank mutually exclusive projects, which are projects where choosing one prevents the selection of another.

Therefore, the correct answer is A.

Key takeaways:

• The IRR rule is a widely used method for evaluating investments, but it's not without flaws.
• The use of an arbitrary discount rate and the inability to accurately analyze mutually exclusive projects are two significant limitations of the IRR rule.
• It's crucial to be aware of these flaws and to use the IRR rule cautiously in investment decision-making.