Question

Cirice Corp. is considering opening a branch in another state. The operating cash flow will be $164,500 a year. The project will require new equipment costing $607,000 that would be depreciated on a straight-line basis to zero over the 5-year life of the project. The equipment will have a market value of $187,000 at the end of the project. The project requires an initial investment of $43,500 in net working capital, which will be recovered at the end of the project. The tax rate is 35 percent. What is the project's IRR?

A) 14.00%

B) 15.25%

C) 15.31%

D) 10.01%

E) 12.65%

Answer 1

Time line		0	1	2	3	4	5
Cost of new machine		-607000
Initial working capital		-43500
=Initial Investment outlay		-650500
=after tax operating cash flow			164500	164500	164500	164500	164500
reversal of working capital							43500
+Proceeds from sale of equipment after tax	=selling price* ( 1 -tax rate)						121550
+Tax shield on salvage book value	=Salvage value * tax rate						0
=Terminal year after tax cash flows							165050
Total Cash flow for the period		-650500	164500	164500	164500	164500	329550
Discount factor=	(1+discount rate)^corresponding period	1	1.139979	1.29955214	1.4814622	1.6888358	1.925237
Discounted CF=	Cashflow/discount factor	-650500	144300.9	126582.07	111038.95	97404.379	171173.7
NPV=	Sum of discounted CF=	1.4024E-05
IRR is discount rate at which NPV = 0 =	14.00%