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 | $886.61 | $260 | $5 | $10 |

Project L |
-$1,000 | $5 | $260 | $420 | $724.69 |

The company's WACC is 9.0%. What is the IRR of the better
project? (*Hint*: The better project may or may not be the
one with the higher IRR.) Round your answer to two decimal
places.

%

Answer #1

S:

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

=886.61/1.09+260/1.09^2+5/1.09^3+10/1.09^4

=$1043.19

NPV=Present value of inflows-Present value of outflows

=$1043.19-$1000

=$43.19(Approx).

L:

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

=5/1.09+260/1.09^2+420/1.09^3+724.69/1.09^4

=$1061.13

NPV=Present value of inflows-Present value of outflows

=$1061.13-$1000

=$61.13(Approx).

Hence L is better having higher NPV

Let irr be x%

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

1000=5/1.0x+260/1.0x^2+420/1.0x^3+724.69/1.0x^4

Hence x=**irr=11%(Approx).**

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