Question

our company has some spare capital that they put in a specific investment. The investment involves spending $1000 and has a market interest rate of 7.9%. If the inflation has been 1.7% over the past few years and is expected to continue, what MARR_R would your company expect from this investment? (Enter your answer in percentage. Eg: If your answer is 2.52%, enter 2.52% and not 0.02516)

Answer 1

MARR is the Minimum Acceptable Rate of Return and the target rate for evaluating a project investment. Also, known as hurdle rate, a project is selected iff the IRR or the Internal Rate of Return MARR.

Here, general inflation rate = f = 1.7%

The market interest rate (with inflation ) = i_m = 7.9%,

MARR_R = i_r = real MARR is the minimum acceptable rate of return to be earned when the cash flow is earned in real dollars, i.e. if there were no inflation. So, it can be computed by the formula:

i_r = (i_m - f)/(1+f)

= 7.9-1.7/1+1.7 = 6.2/2.7 = 2.29%

With inflation, the return on investment has to be greater than inflation, or else the investor will lose money.