Question

In: Finance

Golda is considering a project which requires an amount of ?$3000.00 and another amount of ?$1000.00...

Golda is considering a project which requires an amount of ?$3000.00 and another amount of ?$1000.00 ????? 1 ????. After two years’ time, when the project ends, she expects an inflow of ?$4500.00. what is the internal rate of return (???) of this project? Is the above Investment profitable? Assume that Golda can lend and borrow at the same fixed rate of 7.13% per annum.

Solutions

Expert Solution

Computation of IRR using trial and error method:

Computation of IRR using discount rate of 6 %.

Year Cash Flow © Computation of PV Factor PV Factor @ 6 % (F) PV (C x F)
0 -3000 1/(1+0.06)^0 1 -3000
1 -1000 1/(1+0.06)^1 0.94339622642 -943.3962264
2 4500 1/(1+0.06)^2 0.88999644001 4004.9839801
NPV1 61.5877536

As NPV is positive, let’s compute NPV at discount rate of 7 %.

Year

Cash Flow (C)

Computation of PV Factor

PV Factor @ 7 % (F)

PV (C x F)

0

-N$3,000

1/ (1+0.07) ^0

1

-N$3,000

1

-1,000

1/ (1+0.07) ^1

0.93457943925

-934.5794393

2

4,500

1/ (1+0.07) ^2

0.87343872827

3,930.4742772

NPV2

-4.1051621

IRR = R1 + [NPV1 x (R2 – R1)/ (NPV1 – NPV2)]

      = 6 % + [N$61.5877537 x (7 % – 6 %)/ (N$61.5877537 –(-N$4.1051621))]

      = 6 % + [N$61.5877537 x 1 %/ (N$61.5877537 + N$4.1051621)]

                    = 6 % + [N$61.5877537 x 0.01/ (N$65.6929157)]

                    = 6 % + (N$0.615877537 / N$65.6929157)

                    = 6 % + 0.009375098

                    = 6 % + 0.94 % = 6.94 %

Internal rate of the project is 6.94 %

As the IRR of the project, 6.94 % is less than lending and borrowing rate of Golda, the project is not profitable.


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