Question

IRR and NPV A company is analyzing two mutually exclusive projects, S and L, with the following cash flows:

0 1 2 3 4 Project S -$1,000 $868.18 $250 $10 $15

Project L -$1,000 $0 $260 $400 $827.46 The company's WACC is 9.0%.

What is the IRR of the better project? (Hint: The better project may or may not be the one with the higher IRR.) Round your answer to two decimal places.

Answer 1

Present value of inflows=cash inflow*Present value of discounting factor(rate%,time period)

S:

Present value of inflows=868.18/1.09+250/1.09^2+10/1.09^3+15/1.09^4

=$1025.26

NPV=Present value of inflows-Present value of outflows

=$1025.26-$1000

=$25.26

L:

Present value of inflows=0+260/1.09^2+400/1.09^3+827.46/1.09^4

=$1113.90

NPV=Present value of inflows-Present value of outflows

=$1113.90-$1000

=$113.90

Hence L is the better project.

For L:

Let irr be x%
At irr,present value of inflows=present value of outflows.

1000=260/1.0x^2+400/1.0x^3+827.46/1.0x^4

Hence x=irr=12.60%(Approx).