Question

Innovation Company is thinking about marketing a new software product. Upfront costs to market and develop the product are

$ 4.93$4.93

million. The product is expected to generate profits of

$ 1.17$1.17

million per year for ten years. The company will have to provide product support expected to cost

$ 94 comma 000$94,000

per year in perpetuity. Assume all profits and expenses occur at the end of the year.a. What is the NPV of this investment if the cost of capital is

6.4 %6.4%​?

Should the firm undertake the​ project? Repeat the analysis for discount rates of

1.1 %1.1%

and

17.3 %17.3%​,

respectively.

b. What is the IRR of this investment​ opportunity?  

c. What does the IRR rule indicate about this​ investment?

a. What is the NPV of this investment if the cost of capital is

6.4 %6.4%​?

Should the firm undertake the​ project? Repeat the analysis for discount rates of

1.1 %1.1%

and

17.3 %17.3%​,

respectively.If the cost of capital is

6.4 %6.4%​,

the NPV will be

​$nothing.

​(Round to the nearest​ dollar.)

Answer 1

If only one major outflow is followed by inflows, we get one single internal rate of return(return at which NPV is 0). This is rhe rate of return below which NPV is always positive and the investor concludes that if the investment rate of return is less than IRR, the investment will proove profitable.

However, in the current investment scenario, one major outflow is followed by inflows and outflows. In such a situation, there may be more than one IRR. In that case, the knowledge of the IRR does not support investment decisions alone. At interest rate r > 1.623% and r below 16.8%, NPV is positive. Here decisions cannot be solely based on the IRR, but knowledge of the NPV is equally important to make a peofitable decision.