Question

Your company is planning to open a new gold mine that will cost $1.45 million to build, with the expenditure occurring at the end of the year two years from today. The mine will bring year-end after-tax cash inflows of $1.09 million at the end of the two succeeding years, and then it will cost $0.61 million to close down the mine at the end of the third year of operation. What is this project’s IRR?

Answer 1

Compute the internal rate of return of the project, using the equation as shown below:

Present value of cash inflows = Present value of cash outflows

{Year 1 cash flow/ (1 + Rate)} + {Year 2 cash flows/ (1 + Rate)2} = {Year 2 cash outflows/ (1 + Rate)2} + {Year 3 cash outflows/ (1 + Rate)3}

{$1.09 million/ (1 + Rate)} + {$1.09 million/ (1 + Rate)2} = {1.45 million/ (1 + Rate)2} + {0.61 million/ (1 + Rate)3}

After solving the above-mentioned equation on financial calculator, the IRR comes out to be -7%.

Alternatively:

Compute the internal rate of return (IRR) of the project, using the equation as shown below:

The result of the above excel table is as follows:

Hence, the IRR is -7%.