Question

King’s Department Store is contemplating the purchase of a new machine at a cost of $35,370. The machine will provide $5,200 per year in cash flow for nine years. King’s has a cost of capital of 11 percent. Use Appendix D for an approximate answer but calculate your final answer using the financial calculator method.

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

Answer 1

Steps for financial calculator are as shown below:

Step 1: It is a good practice to always begin by clearing the Cash Flow worksheet. This reduces possibility of error. To do so: Press [CF] to turn the CF worksheet on. Press [2nd] [CLR] [Quit]

Step 2: Press [CF]. The display should show: CF0= 0.00000. Enter the numeric amount of the cash flow for time period 'zero'. This would be 37,370. Now, since all outflows are negative, press [+\-] to change this amount to a cash outflow. Press [Enter].

Step 3: Press the down arrow key to display C01. Type in the cash amount for period 1 which is 5,200, then press [Enter]. Press the down arrow key to display F01. Now, since this same amount occurs for 9 years, we can enter 9 and then Press [Enter].

{Had this amount be variable over the period of time, we would have entered cashflow for each period. We would have not entered 9 in F01 and pressed the down arrow key to display C02, typed in the cash amount for period 2, then press [Enter]. Press the down arrow key to display F02. Press the down arrow key again to accept F02, and to move to the next field which will display as C03 and so, on}

Step 8: To compute NPV: Press [NPV] to display I = 0.0000. Enter the required rate of return in numeric (non-percent) format, which is 11 here. Press [Enter]. Press the down arrow key, then press [CPT] to display the dollar amount of the NPV = - 6,577.35 (Answer 1)

Step 7: To compute IRR: Press [IRR] then [CPT]. After a few seconds, the display should show the IRR percentage. IRR = 6.00% (Answer 2)

Since, the NPV is negative (or IRR is less than the cost of capital), project should be rejected as it would reduce the value of firm