Question

MGMT 326-Fundamentals of Corporate Finance - Berk/DeMarzo Gabriel Pacheco ? 5/9/188:23 PM Homework: Extra Credit Assignment Save Score: 0 of 1 pt 28 of 46 (19 complete) ? Hw Score: 36.23%, 16.67 of 46 pts P 8-15 (similar to) Question Help Your factory has been offered a contract to produce a part for a new printer. The contract would last for three years, and your cash flows from the contract would be $4.97 million per year. Your upfront setup costs to be ready to produce the part would be S7.96 million. Your discount rate for this contract is 7.6% a. What is the IRR? b. The NPV is $4.94 million, which is positive so the NPV rule says to accept the project. Does the IRR rule agree with the NPV rule? a. What is the IRR? The IRR is L)% (Round to two decimal places.) Enter your answer in the answer box and then click Check Answer. Clear All

Answer 1

IRR is the rate at which present value of cash inflows equals cash outflows i.e. NPV is zero

$7.96million = [$4.97million/(1+r)] + [$4.97million/(1+r)^2] + [$4.97million/(1+r)^3]

Solving for r we get IRR = 39.38%

IRR is much higher than the cost of capital of 7.6%. As per IRR rule project should be accepted it wacc is less than IRR. Hence IRR rule agrees with NPV rule.