A company has been invited to invest $4 million in a partnership and receive a g

Question

A company has been invited to invest $4 million in a partnership and receive a guaranteed total amount o
of $10 million after 6 years. By corporate policy the MARR is always established at 2% above the cost of
capital. The inflation rate during the 6 year is expected to average 4% per year. If the real interest rate paid on capital is 12% per year, is this investment economically justified?

Explanation / Answer

let r be yield rate for investment. so, 4*(1+r)^6 = 10 (m$) =>r = (10/4)^(1/6) -1 = 0.165 = 16.5% real cost of capital = 12% cost of capital with inflation = real rate + inflation = 12+4 = 16% MARR = 16+2 = 18% hence yield rate (16.5%) is less than MARR (18%) required. so, investment can not be justified economically. (ANSWER)

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