Question

If P = -$500,000, Annual Income = +$10,000 per year, Salvage= +$700,000, and N = 10 years. Determine the Interest Rate

Answer 1

Ans) Here interest is internal rate of return, which the interest rate at which the present value of cash inflow will equal to cash outflo

- 500000 =10000 PVIFA(r,10) +700000 PVIF(r,10)

Where PVIFA = Present value interest factor for annuity

PVIF = Present value interest factor.

r = rate of interest

n= 10 years given

P = - 500000 = initial investment

0 = - 500000 + 10000 PVIFA ( r, 10) +700000 PVIF(r,10) ------- this is the equation for Internal rate of return. By looking through the present value interest factor annuity and present value interest factor table through it and trial method we take rate of interest as 5 %

Hence the irr equation will give the below result

0 = - 500000 + 10000 PVIFA( 5%, 10)+700000 PVIF (5 %, 10 )

0 = -500000 + 10000*7.272+ 700000*0.613

= -500000 +72720+ 429100 = 1820

Which is closest approximation figure to above

Hence internal rate of return is approximately 5 %