Internal Rate of Return Method for a Service Company The Riverton Company, a ski

Question

Internal Rate of Return Method for a Service Company

The Riverton Company, a ski resort, recently announced a $1,055,700 expansion to lodging properties, lifts, and terrain. Assume that this investment is estimated to produce $170,000 in equal annual cash flows for each of the first eight years of the project life.

a. Determine the expected internal rate of return of this project for eight years, using the present value of an annuity of $1 table above. If required, round your final answer to the nearest whole percent.
%

Present Value of an Annuity of $1 at Compound Interest Year 6% 10% 12% 15% 20% 1 0.943 0.909 0.893 0.870 0.833 2 1.833 1.736 1.690 1.626 1.528 3 2.673 2.487 2.402 2.283 2.106 4 3.465 3.170 3.037 2.855 2.589 5 4.212 3.791 3.605 3.352 2.991 6 4.917 4.355 4.111 3.784 3.326 7 5.582 4.868 4.564 4.160 3.605 8 6.210 5.335 4.968 4.487 3.837 9 6.802 5.759 5.328 4.772 4.031 10 7.360 6.145 5.650 5.019 4.192

Explanation / Answer

Let irr be x%
At irr,present value of inflows=present value of outflows.

1,055,700=170,000/1.0x+170,000/1.0x^2+.........+170,000/1.0x^8

(1055700/170,000)=[1/1.0x+1/1.0x^2+............+1/1.0x^8]

[1/1.0x+1/1.0x^2+............+1/1.0x^8]=6.21

Hence x=IRR=6%(Looking at present value of annuity(6%,8 years)]

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