The internal rate of return method is used by Testerman Construction CO. in anal

Question

The internal rate of return method is used by Testerman Construction CO. in analyzing a capital expenditure proposal that involves an investment off $113,550 and annual net cash flows of $30,000 for each of the six years of its useful life. Determine a present value factor for an annuity of $1, which can be used in determining the internal rate of return. Using the factor determined in part (a) and the present value rate return for table appearing in this chapter (Exhibit 5), determine the internal rate of return for the proposal.

Explanation / Answer

Investment = 113550 ; Annuity = 30000 for 6 years

PVIFA has to be seen for 6 years.

At irr, NPV = 0 , so the present value of annuity = 113550

So , 30000 * PVIFA( 6 yr , X%) = 113550

PVIFA( 6 yr, X%) = 113550 / 30000 = 3.785

By looking at PVIFA table in 6th year 3.785 can be located when X = 15%

hence IRR = 15%

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