Question

Given the following annual net cash flows, determine the IRR to the nearest whole percent of a project with an initial outlay of $1,800.

Year	Net Cash Flow
1	$1,000
2	$750
3	$500

A) 14%  
B) 12%
C) 8%
D) 25%

Answer 1

For the purpose of calculating IRR, it is essential to calculate the PV factor. The PV factor is as follows:

Average annual cash outflow = $1,000 +$750 +$500 = $750

   Initial Outlay / Average annual cash outflow

= $1800 / $750

= 2.4

12% = 0.89286 .79719 .71178 = 2.40183

13% = 088496 .78315 .69305 = 2.36116

The number lies between 12% and 13%

Net cash Inflows : $1,000        $750         $500

PV                       0.89286    .79719     .71178

PV@12%             $892.6      $597.89   $355.89   = $1846.38

Net cash Inflows : $1,000        $750         $500

PV                       088496   .78315       .69305

PV@13%             $884.96      $587.36 $346.52 = $1818.84

IRR will be calculated through Interpolation.

LR + PVLR - Desired Value / PVLR - PVHR * (HR - LR)

= 12 + 1846.38 - 1800 / 1846.38 - 1818.84 * (13 - 12)

= 12 + 46.38 / 27.54

= 12 + 1.68

= 13.68 %

Hence, the correct answer is 'A' 14%

Here,

LR =Lower rate

PVLR = Present Value of lower rate

HR = Higher Rate

Hence, the correct answer is 'A' 14%