Question

Pierre’s Hair Salon is considering opening a new location in French Lick, California. The cost of building a new salon is $ 297,000. A new salon will normally generate annual revenues of $ 63,245, with annual expenses (including depreciation) of $ 39,000. At the end of 15 years the salon will have a salvage value of $ 76,000.

Calculate the annual rate of return on the project. (Round answer to 0 decimal places, e.g. 125.)

Annual rate of return

enter the annual rate of return in percentages rounded to 0 decimal places %

Answer 1

Depreciation = $297,000-76,000 / 15 years = $14,733

Depreciation should not be considered as actual expenses since it is not actual cash flow.

Annual cash flow = $63,245 – (39,000-14,733) = $38,978 for 15 years

Cash outflow at initial stages = $297,000

Internal rate of return is a discount rate that makes the NPV of all cash flows from a particular project equal to zero.

Therefore, we can calculate IRR from NPV formula

NPV = Ct / (1+r)^t – Co

Where Ct = net cash flow during the period t

Co = Total initial investment costs

R = discount rate

T = number of time periods

0 = $38,978 (for 15 years) / (1+r)^15 – 297,000

R = 9.969%