Question

Midize Flower Company provides flowers and other nursery products for decorative purposes in medium to large sized restaurants and businesses. The company has been investigating the purchase of a new specially equipped van for deliveries. The van has a value of $66,645 with a seven-year life. The expected additional cash inflows are $15,000 per year. What is the internal rate of return? A) 10% B) 13% C) 15% D) 20%

Answer 1

B) 13%

Working:

Net Present Value at 10%					Net Present Value at 20%
Years	Cash flows	Discount factor @ 10%	Present Value		Years	Cash flows	Discount factor @ 20%	Present Value
0	$   -66,645	1.000	$        -66,645		0	$   -66,645	1.000	$        -66,645
1	$    15,000	0.909	$         13,636		1	$    15,000	0.833	$         12,500
2	$    15,000	0.826	$         12,397		2	$    15,000	0.694	$         10,417
3	$    15,000	0.751	$         11,270		3	$    15,000	0.579	$           8,681
4	$    15,000	0.683	$         10,245		4	$    15,000	0.482	$           7,234
5	$    15,000	0.621	$           9,314		5	$    15,000	0.402	$           6,028
6	$    15,000	0.564	$           8,467		6	$    15,000	0.335	$           5,023
7	$    15,000	0.513	$           7,697		7	$    15,000	0.279	$           4,186
			$           6,381					$        -12,576
IRR	=	L+(H-R)*(A/(A-B))	Where,
	=	0.10+0.10*(6381/18957)	L	0.10
	=	0.1337	H	0.20
Thus, IRR rate is 13.37% or 13%.			A	$   6,381
			B	$-12,576
			H-R	0.10
			A-B	$ 18,957
IRR is the rate at which Net Present Value becomes zero.