Question

Due to a restricted capital budget, a company can undertake only one of the following three-year projects. Both require an initial investment of $650,000 and will have no significant terminal value. Project XXX is anticipated to have annual profits of $400,000, $300,000, and $200,000 in successive years, whereas Project YYY’s only profit, $1.05 million, comes at the end of Year 3. a. Calculate the IRR of each project. b. On the basis of their IRRs, which project should be selected?

Answer 1

IRR of Project XXX is calculated using the IRR function in Excel, passing the array of cells with the cash flows as input into the function :

IRR of Project XXX = 20.82%

IRR of Project YYY is calculated using the IRR function in Excel, passing the array of cells with the cash flows as input into the function :

IRR of Project YYY = 17.33%

On the basis of IRR, Project XXX should be selected as it has a higher IRR