Question

A company is considering investing in a project that will require an initial investment of $535k, a dismantling cost after 10 years of $1.6M, and will bring in a positive cash flow at the end of each of the 11 years of $210k. The company has an expected internal return rate of 12%. Show using the Equivalent Rate of Return (ERR) method whether the company should make the investment.

Answer 1

Answer:	Particulars	Amount
	Initial investment (a)	535,000.00
	Dismantling cost after 10 years	1,600,000.00
	PV of dismantling cost (b)	515,156.80
		16,00,000 * PVIF(12%,10)
		16,00,000 * 0.321973
	Revenues/year	210,000.00
	PV of revenues ©	1,246,917.00
		2,10,000 * PVAF(12%,11)
		2,10,000 * 5.9377
	NPV (c-a-b)	196,760.20
	Now, the company is having a positive NPV at estimated IRR of 12%.
	Calculation of actual IRR:
	If IRR =27%,
	NPV = -5,35,000 - 1,600,000*PVIF(27%,10)+ 2,10,000 * PVAF(27%,11)
	NPV = 40,088.38
	If IRR =31.02%,
	NPV = -5,35,000 - 1,600,000*PVIF(31.02%,10)+ 2,10,000 * PVAF(31.02%,11)
	NPV = -15.89
	which is approximately equal to 0.
	Hence, actual IRR = 31.02% which is more than the expected IRR of 12%.
	Hence, the project is benefecial and should be accepted.