Question

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 | $886.19 | $250 | $15 | $5 |

Project L |
-$1,000 | $10 | $260 | $380 |
$784.81 The company's WACC is 8.5%. What is the IRR of the better
project? ( |

Answer #1

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

S:

Present value of inflows=886.19/1.085+250/1.085^2+15/1.085^3+5/1.085^4

=$1044.48

NPV=Present value of inflows-Present value of outflows

=$1044.48-$1000

=$44.48(Approx)

L:

Present value of inflows=10/1.085+260/1.085^2+380/1.085^3+784.81/1.085^4

=$1093.88

NPV=Present value of inflows-Present value of outflows

=$1093.88-$1000

=$93.88(Approx)

Hence Project L is a better project.

Let irr be x%

At irr,present value of inflows=present value of outflows.

1000=10/1.0x+260/1.0x^2+380/1.0x^3+784.81/1.0x^4

Hence x=**irr=11.50%(Approx).**

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