Question

(IRR, Payback, and calculating a missing cash flow) Mode publishing is considering a new printing facility that will involve a large initial outlay and then result in a series of positive cash flows for four years. The estimated cash flows associated with this project are:

Year Project Cash Value

0 ?

1 $810 Million

2 $350 Million

3 $280 Million

4 $450 Million

If you know that the project has a regular payback of 2.9 years, what is the project's internal rate of return?

Answer 1

Payback period = remaining cash flow / cash flow for year 3

0.9 = remaining cash flow / 280,000,000

remianing cash flow = 280,000,000 * 0.9 = 252,000,000

Initial investment = 252,000,000 + 350,000,000 + 810,000,000

Initial investment = 1,412,000,000

Internal rate of return is that discont rate that makes NPV equal to 0

-1,412,000,000 + 810,000,000 / ( 1 + R)¹ + 350,000,000 / ( 1 + R)² + 280,000,000 / ( 1 + R)³ + 450,000,000 / ( 1 + R)⁴

Using trial and error method, we try different values for R. lets try 14.9344%

-1,412,000,000 + 810,000,000 / ( 1 + 0.149344)¹ + 350,000,000 / ( 1 + 0.15)² + 280,000,000 / ( 1 + 0.149344)³ + 450,000,000 / ( 1 + 0.149344)⁴ = 0

-1,412,000,000 + 704,749,839.9 + 264,952,473.6 + 184,419,963.8 + 257,876,865 = 0

it will be close to 0

Therefore IRR is 14.9344%

Note: It is always better to use a financial calculator to calculate IRR. Calculations can be time taking using trial and error method.