Question

Cosider the financial data for a project given in that table below:

Initial investment   $110,000
Project life   6 years
Salvage value   $10,000
Annual revenue   $25,000
Annual expenses   $5,000

A) What is i* for the project?

B) If the annual expense increases at a 6?% rate over the previous? year's expenses, but the annual income is? unchanged, what is the new i*??

Answer 1

Net cash flow, year 0 = -$110,000

In both cases, i* (IRR) is computed using Excel IRR function, as follows.

(A)

Net cash flow, years 1-5 = Revenue - Expense = $(25,000 - 5,000) = $20,000

Net cash flow, year 6 = Revenue - Expense + Salvage value = $(20,000 + 10,000) = $30,000

Year	Net Cash Flow ($)
0	-1,10,000
1	20,000
2	20,000
3	20,000
4	20,000
5	20,000
6	30,000
IRR =	4.72%

(B)

(B)
Year	Revenue	Expense ($)	Net Cash Flow ($)
0		1,10,000	-1,10,000
1	25,000	5,000	20,000
2	25,000	5,300	19,700
3	25,000	5,618	19,382
4	25,000	5,955	19,045
5	25,000	6,312	18,688
6	35,000	6,691	28,309
		IRR =	3.65%