Question

The NPV of a series of cash flows is the following:

• At a 5% required rate of return, the NPV is $41,728
• At a 10% required rate of return, the NPV is $24,708
• At a 15% required rate of return, the NPV is $9,940
• At a 20% required rate of return, the NPV is -$2,968 (note the negative sign)

The IRR for the series of cash flows is in which range:

Multiple Choice

• 0% to 5%

• Between 5% and 10%

• Between 10% and 15%

• Between 15% and 20%

• Greater than 20%

• More information is needed to answer the question

Answer 1

The Correct Answer is between 15% and 20%

We need to First Understand what is IRR.

1) Internal Rate of Return is the Discount Rate where NPV is 0.

2) NPV is computed using Present Values of Cash Inflows - Present Value of Cash Outflows.

So as the discount rate goes on increasing the given NPV falls.

However even at a required Rate of return of 15% the NPV does not become negative. It is when the discount rate is increased from 15% to 20% the NPV turns negative.

So when the Cash Flows of the given project are discounted at rate higher than 15% the NPV starts falling and eventually turns negative when the Discount rate Reaches 20%. Therefore we can say that at a discount rate of higher than 15% and lower than 20% the NPV would become nill. This rate is the Internal Rate of Return of the project.

So IRR for the series of Cash flows is between 15% - 20%