Question

IRR AND NPV

A company is analyzing two mutually exclusive projects, S and L, with the following cash flows:

0

1

2

3

4

Project S	-$1,000	$868.78	$260	$15	$10
Project L	-$1,000	$0	$250	$380	$824.99

The company's WACC is 10.0%. What is the IRR of the better project? (Hint: The better project may or may not be the one with the higher IRR.) Round your answer to two decimal places.

%

Answer 1

Project with better NPV is better Projects.

NPV = PV of Cash Inflows - PV of Cash Outflows

Project S:

Year	CF	PVF @10%	Disc CF
0	$ -1,000.00	1.0000	$ -1,000.00
1	$     868.78	0.9091	$     789.80
2	$     260.00	0.8264	$     214.88
3	$        15.00	0.7513	$        11.27
4	$        10.00	0.6830	$          6.83
NPV			$        22.78

Project L:

Year	CF	PVF @10%	Disc CF
0	$ -1,000.00	1.0000	$ -1,000.00
1	$              -	0.9091	$              -
2	$     250.00	0.8264	$     206.61
3	$     380.00	0.7513	$     285.50
4	$     824.99	0.6830	$     563.48
NPV			$        55.59

Project L is better project as it has higher NPV.

IRR is the Rate at which PV of Cash Inflosw are equal to PV of Cash Outflows

Year	CF	PVF @11%	Disc CF	PVF @12%	Disc CF
0	$ -1,000.00	1.0000	$ -1,000.00	1.0000	$ -1,000.00
1	$              -	0.9009	$              -	0.8929	$              -
2	$     250.00	0.8116	$     202.91	0.7972	$     199.30
3	$     380.00	0.7312	$     277.85	0.7118	$     270.48
4	$     824.99	0.6587	$     543.45	0.6355	$     524.30
NPV			$        24.20		$        -5.93

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

= 11% + [ 24.20 / 30.13 ] * 1%

= 11% + 0.80%

= 11.80%

IRR of Better Project is 11.80%