Question

When given NPV, I have trouble understanding how IRR functions. I read some materials online, it mentioned that the IRR (which is the discount rate) that makes NPV goes 0. Hence, for example:

Year	0	1	2	3	4
Present Value	(900)	247.72	282.78	366.06	17.77

NPV = 9.32

I understand we can use IRR function in excel, however, when I want to do it in an trial end error method, what formula should I insert my "guess" rate?

Kindly explain.

In this case, how do I calculate the IRR manually?

Answer 1

Trial and error:

Approach 1: The discount rate used to calculate NPV can be the guess rate

Approach 2: In excel, write the below formula in cell A1

=-900+247.72/(1+B1)+282.78/(1+B1)^2+366.06/(1+B1)^3+17.77/(1+B1)^4

Go to Data->What if Analysis->Goal Seek->Set Cell A1 To value 0 By changing cell B1

You will get the value of IRR in cell B1

Approach 3: =IRR({-900;247.72;282.78;366.06;17.77})

Manually:

-900+247.72/(1+r)+282.78/(1+r)^2+366.06/(1+r)^3+17.77/(1+r)^4=0

Let 1/(1+r) be x

IRR manually is possible by solving the polynomial equation -900+247.72*x+282.78*x^2+366.06*x^3+17.77*x^4=0