Question

The Hudson Corporation makes an investment of $38,250 that provides the following cash flow:

Year	Cash Flow
1		$19,000
2		19,000
3		13,000

Use Appendix B and Appendix D for an approximate answer but calculate your final answer using the formula and financial calculator methods.  

a. What is the net present value at a discount rate of 11 percent? (Do not round intermediate calculations and round your answer to 2 decimal places.)
  

b. What is the internal rate of return? (Do not round intermediate calculations. Enter your answer as a percent rounded to 2 decimal places.)
  

c. Would you make the same decision under both parts a and b?

Answer 1

(a): rate = 11% and thus PVIF = 1/1.11^n where n is the year of cash flow. PV = cash flow in a year *PVIF for that year. NPV = sum of all PVs.

Year	CF	1+r	PVIF	PV
0	-       38,250	1.11	1.0000	- 38,250.00
1	19,000		0.9009	17,117.12
2	19,000		0.8116	15,420.83
3	13,000		0.7312	9,505.49
			NPV	3,793.43

Thus NPV = $3,793.43

(b): IRR is the rate at which NPV becomes nil. I have computed the IRR using the trial and error method.

Year	CF	1+r	PVIF	PV
0	-       38,250	1.169759	1.0000	- 38,250.00
1	19,000		0.8549	16,242.67
2	19,000		0.7308	13,885.49
3	13,000		0.6248	8,121.84
			NPV	0

Thus IRR = 1.169759 - 1 = 16.98%

IRR = 16.98%

(c): Yes, same decision will be made in both parts. In “a” NPV is positive and hence project will be accepted. In “b” IRR of 16.98% > discount rate of 11% and hence project will be accepted. Thus project is accepted in both “a” and “b”.