Gamma Company is considering an investment opportunity with the following expected net cash inflows: Year 1, $250,000; Year 2, $350,000; Year 3, $395,000. The company uses a discount rate of 12% and the initial investment is $750,000. The following table is available:
Present Value of $1:
$$\begin{array} { | c | r | r | r | r | }
\hline & 10 \% & 12 \% & 14 \% & 15 \% \
\hline 1 & 0.909 & 0.893 & 0.877 & 0.870 \
\hline 2 & 0.826 & 0.797 & 0.769 & 0.756 \
\hline 3 & 0.751 & 0.712 & 0.675 & 0.658 \
\hline 4 & 0.683 & 0.636 & 0.592 & 0.572 \
\hline \underline { 5 } & \underline { 0.621 } & \underline { 0.567 } & \underline { 0.519 } & \underline { 0.497 } \
\hline
\end{array}$$ The IRR of the project will be:

Question

Gamma Company is considering an investment opportunity with the following expected net cash inflows: Year 1, $250,000; Year 2, $350,000; Year 3, $395,000. The company uses a discount rate of 12% and the initial investment is $750,000. The following table is available:
Present Value of $1:
$$\begin{array} { | c | r | r | r | r | } 
\hline & 10 \% & 12 \% & 14 \% & 15 \% \
\hline 1 & 0.909 & 0.893 & 0.877 & 0.870 \
\hline 2 & 0.826 & 0.797 & 0.769 & 0.756 \
\hline 3 & 0.751 & 0.712 & 0.675 & 0.658 \
\hline 4 & 0.683 & 0.636 & 0.592 & 0.572 \
\hline \underline { 5 } & \underline { 0.621 } & \underline { 0.567 } & \underline { 0.519 } & \underline { 0.497 } \
\hline
\end{array}$$ The IRR of the project will be:

Quizplus · Accepted Answer

The IRR is the discount rate that makes the NPV of the cash flows equal to zero. By calculating the NPV at 12% and comparing it with the cash flows, we find that the IRR is slightly higher than 12%. Since the NPV at 12% is negative and at 14% it is positive, the IRR must be between 14% and 15%.

Gamma Company Is Considering an Investment Opportunity with the Following