Question

Assume you have the following cash flow in actual dollars: Year 0 -$134; Year 1 -$91; Year 2 $114; Year 3 $87; Year 4 $183. The general inflation rate is 2.4%. What is the inflation-free IRR of this cash flow? Express your answer as a percentage.

Answer 1

Using excel we find the Internal rate of return (IRR) for the following cash flows
Year	Cash flow
0	-134
1	-91
2	114
3	87
4	183
IRR	21.68%
The IRR is the nominal interest rate
1 + nominal interest rate = (1+ real interest rate)*(1+ inflation)
The inflation rate is 2.4%
1+.2168 = (1+real interest rate)*(1+.024)
1+real interest rate = (1.2168)/(1.024)
1 + real interest rate = 1.1883
Real interest rate = .1883
The inflation free IRR of the cash flow is 18.83%