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MJ Corporation is considering an investment a new project that will require an investment of $400,000...

MJ Corporation is considering an investment a new project that will require an investment of $400,000 in new equipment today. The equipment will be straight-line depreciated to zero over a 5-year period. The project will create annual sales of $300,000, with annual cost of goods at 55% of sales. The project will be evaluated over a 5-year period, and MJ believes he can sell the equipment for $40,000 at the end of the 5th year. If the tax rate for the firm is 30%, what is the IRR of this project?

Question 17 options:

17.99%

11.44%

9.43%

16.14%

19.43%

Solutions

Expert Solution

IRR :
IRR is the Rate at which PV of Cash Inflows are equal to PV of Cash Outflows.
It assumes that intermediary Cfs are reinvested at IRR only.

IRR = Rate at which least +ve NPV + [ NPV at that Rate / Change in NPV due to 1% inc in disc rate ] * 1%

If IRR > Cost of Capital - Project can be accepted
IRR = Cost of Capital - Indifferebce Point - Project will be accepted / Rejected
IRR < Cost of Capital - Project will be rejected

Annual Cash Flow = PAT + Dep

Dep = [ Cost ] / Life

= $ 400000 / 5

= $ 80000

Annual CF:

Particulars Amount Formula
Sales $ 3,00,000.00
COGS $ 1,65,000.00 Sales * 55%
Dep $    80,000.00 Calculated
PBT $    55,000.00 Sales-COGS-Dep
Tax $    16,500.00 PBT* Tax Rate
PAT $    38,500.00 PBT - Tax
Cash Flow $ 1,18,500.00 PAT + Dep

Terminal Cash flow = Sale Price [ 1 - Tax Rate ]

= $ 40000 [ 1 - 0.3 ]

= $ 40000 * 0.7

= $ 28000

IRR:

Year CF PVF @16% Disc CF PVF @17% Disc CF
0 $ -4,00,000.00     1.0000 $ -4,00,000.00        1.0000 $ -4,00,000.00
1 $ 1,18,500.00     0.8621 $ 1,02,155.17        0.8547 $ 1,01,282.05
2 $ 1,18,500.00     0.7432 $      88,064.80        0.7305 $      86,565.86
3 $ 1,18,500.00     0.6407 $      75,917.93        0.6244 $      73,987.91
4 $ 1,18,500.00     0.5523 $      65,446.50        0.5337 $      63,237.53
5 $ 1,18,500.00     0.4761 $      56,419.39        0.4561 $      54,049.17
5 $      28,000.00     0.4761 $      13,331.16        0.4561 $      12,771.11
NPV $        1,334.96 $      -8,106.37

IRR = Rate at which least +ve NPV + [ NPV at that Rate / Change in NPV due to 1% inc in disc rate ] * 1%

= 16% + [ 1334.96 / 9441.33 ] * 1%

= 16% + [ 0.14 * 1% ]

= 16% + 0.14%

= 16.14%

OPtion D is correct.

Pls do rate, if the answer is correct and comment, if any further assistance is required.

jeff jeffy answered 2 years ago
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