Question

Somerville Corporation is considering investing in specialized equipment costing $ 684,000. The equipment has a useful life of 5 years and a residual value of $ 52,000. Depreciation is calculated using the straight-line method. The expected net cash inflows from the investment​ are: Year 1 $ 180,000 Year 2 $ 190,000 Year 3 $ 177,000 Year 4 $ 72,000 Year 5 $ 88,000 $ 707,000

Somerville​ Corporation's required rate of return is 14​%. Is the internal rate of return of the investment equal​ to, higher​ than, or lower than 14​%? ​(The present values for this scenario are as​ follows: Year 1​ - 0.877​, Year 2​ - 0.769​, Year 3​ - 0.675​, Year 4​ - 0.592 and Year 5​ - 0.519​)

Answer 1

B IRR is that rate of return where NPV = 0 means PV of all cash inflows PV of all cash outflow IRR can be calculated using Hit and trial method, i.e guess work but that's a lenghty process 2 3 It can be calculated easily using excel. Here the formula applied isIRR(A6:A12) for calculating IRR through excel. 4 5 6 -684000 Cash ouflow 180000 Yr. 1 cash inflow 7 8 190000 Yr. 2 cash inflow 177000 Yr. 3 cash inflow 10 72000 Yr. 4 cash inflow 8800052000) 11 140000 Yr. 5 cash inflow 12 13 4% IRR 14 IRR is 4 % which is lower than 14% 15 16 17