Question

Butler International Limited is evaluating a project in Erewhon. The project will create the following cash flows:

Year	Cash Flow
0	–$	1,230,000
1		405,000
2		470,000
3		365,000
4		320,000

  

All cash flows will occur in Erewhon and are expressed in dollars. In an attempt to improve its economy, the Erewhonian government has declared that all cash flows created by a foreign company are “blocked” and must be reinvested with the government for one year. The reinvestment rate for these funds is 4 percent.

If the company uses a required return of 10 percent on this project, what are the NPV and IRR of the project?

Answer 1

For NPV please see the below table

10%
	0	1	2	3	4	5
Cashflow	$ (1,230,000.00)	$ 405,000.00	$ 470,000.00	$ 365,000.00	$         320,000.00
FV of positive cashflow			$ 421,200.00	$ 488,800.00	$         379,600.00	$ 332,800.00
Presnt value	$ (1,230,000.00)		$ 348,099.17	$ 367,242.67	$         259,271.91	$ 206,642.62
NPV	$       (48,743.63)

NPV = -48,743.63

Future value can be determine by the formula of

FV = PV * (1+r)^n

where r = 4% and n = 1 year

FV for year 1= 405000*1.04 = $421200

similarly we will do for other as well

And the IRR of the project is:$1,250,000 = $421,200 / (1 + IRR)^2+ $488800 / (1 + IRR)^3 + $379600/(1 + IRR)^4 + $332800 / (1 +IRR)^5

IRR = 8.65%