Question

A) Capitol Corp. management is expecting a project to generate after-tax income of $66,190 in each of the next three years. The average book value of the project’s equipment over that period will be $212,570. If the firm’s investment decision on any project is based on an ARR of 37.5 percent

Accounting rate of return is

:

B) Hathaway, Inc., a resort management company, is refurbishing one of its hotels at a cost of $7,053,259. Management expects that this will lead to additional cash flows of $1,610,000 for the next six years. What is the IRR of this project? If the appropriate cost of capital is 12 percent, should Hathaway go ahead with this project?

The IRR of this project is:

Answer 1

Question A
Year	Cash Flow	DF for 37.5%	Discounted Cash Flow
0	-212570	1	$                  (212,570.00)
1	66190	0.7273	$                       48,138.18
2	66190	0.5289	$                       35,009.59
3	66190	0.3847	$                       25,461.52
		NPV	$                  (103,960.71)
As the NPV @ ARR 37.5% is negative the Company shloud not accept the project
Question B
Year	Cash Flow	DF for 12%	Discounted Cash Flow	FOR IRR 7%	DF for 7%	Discounted Cash Flow
0	$ (7,053,259.00)	1	$              (7,053,259.00)		1	$                     (7,053,259.00)
1	$    1,610,000.00	0.8929	$                 1,437,500.00		0.93458	$                       1,504,672.90
2	$    1,610,000.00	0.7972	$                 1,283,482.14		0.87344	$                       1,406,236.35
3	$    1,610,000.00	0.7118	$                 1,145,966.20		0.81630	$                       1,314,239.58
4	$    1,610,000.00	0.6355	$                 1,023,184.11		0.76290	$                       1,228,261.29
5	$    1,610,000.00	0.5674	$                    913,557.24		0.71299	$                       1,147,907.75
6	$    1,610,000.00	0.5066	$                    815,676.11		0.66634	$                       1,072,810.98
		NPV	$                  (433,893.21)		NPV	$                           620,869.85
	IRR	=Ra + NPV @ Ra (Rb-Ra)				Ra = Lower discount rate
		NPV @ Ra - NPV @ Rb				Rb = higher discount rate
		=0.07 + [ ((620869.85 X (.12 - .07)) / (620869.85 - (-433896.21))
		=0.07 + (0.5886 X (.12 - .07))
		0.099
		9.9%