Question

Consider the following project:

	Period
	0	1	2	3
Net cash flow	−255	0	94.55	317.20

The internal rate of return is 19%. The NPV, assuming a 19% opportunity cost of capital, is exactly zero. Calculate the expected economic income and economic depreciation in each year. (Negative answers should be indicated by a minus sign. Do not round intermediate calculations. Round your answers to 2 decimal places.)

Answer 1

Solution :-

As at the rate of IRR , Present value of Cash Inflows is equal to Present Value of Cash Outflows

Now Present value at Year 0 = $255

Now Present Value at Year 1 = $94.55 / ( 1 + 0.19 ) + $317.20 / ( 1 + 0.19 )²

= ( $94.55 * 0.8403 ) + ( $317.20 * 0.706 )

= $303.45

Now Present Value at Year 2 = $317.20 / ( 1 + 0.19 )

= $317.20 * 0.8403

= $266.55

Present Value at Year 3 = $0

Now Economic Depreciation = Present value of Cash flow this Year - Present Value of Cash flow next year

Now Economic Depreciation in

Year 1 = $255 - $303.45 = - $48.45

Year 2 = $303.45 - $266.55 = $36.89

Year 3 = $266.55 - $0 = $266.55

Expected Economic Income = Cash flow - Economic Dep

Year 1 = $0.00 - ( - $48.45 ) = $48.45

Year 2 = $94.55 - $36.89 = $57.66

Year 3 = $317.20 - $266.55 = $50.65

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