Question

Consider the two mutually exclusive investment projects given in the table below for which MARR=11​%. On the basis of the IRR​ criterion, which project would be selected under an infinite planning horizon with project repeatability​ likely?

The rate of return on the incremental investment is ?%

Homework: HW #7 Save Score: 0 of 1 pt 10 of 10 (8 complete) HW Score: 78.33%, 7.83 of 10 pts Problem 7-56 (algorithmic) Question Help Consider the two mutually exclusive investment projects given in the table below for which MARR = 11%. On the basis of the IRR criterion, which project would be selected under an infinite planning horizon with project repeatability likely? Click the icon to view the cash flows for the investment projects * More Info The rate of return on the incremental investment is 40 %(Round to one decimal place.) n 0 Net Cash Flow Project A - $4,500 2,000 3.500 3.500 39.84% Project B - $9,500 8,000 8,000 IRR 43.07% Print Done Enter your answer in the answer box and then click Check Answer 1 Part 1 remaining Clear All Final Check

Answer 1

Based on IRR decision rule, Project B should be selected as it has higher IRR than Project A.

Year (n)	Project A Cash Flow (CA)	Project B Cash Flow (CB)	Incremental Cash Flow (CB - CA)
0	($4,500)	($9,500)	($5000)
1	$2,000	$8,000	$6,000
2	$3,500	$8,000	$4,500
3	$3,500	-	-$3,500
IRR	39.84%	43.07%

Computation of IRR of incremental investment using trial and error method:

Let’s compute NPV of incremental investment at discount rate of 48 %

Year (n)	Incremental Cash Flow (CB - CA)	Computation of PV Factor	PV Factor @ 48 % (F)	PV (CB - CA) x F
0	($5,000)	1/ (1+0.48)0	1	($5,000.00)
1	$6,000	1/ (1+0.48)1	0.675675675675676	$4,054.05
2	$4,500	1/ (1+0.48)2	0.456537618699781	$2,054.42
3	($3,500)	1/ (1+0.48)3	0.308471363986338	($1,079.65)
			NPV1	$28.82

As NPV is positive, let’s compute NPV using discount rate of 49 %

Year (n)	Incremental Cash Flow (CB - CA)	Computation of PV Factor	PV Factor @ 49 % (F)	PV (CB - CA) x F
0	($5,000)	1/ (1+0.49)0	1	($5,000.00)
1	$6,000	1/ (1+0.49)1	0.671140939597315	$4,026.85
2	$4,500	1/ (1+0.49)2	0.450430160803567	$2,026.94
3	($3,500)	1/ (1+0.49)3	0.302302121344676	($1,058.06)
			NPV2	($4.28)

IRR = R₁ + [NPV₁ x (R₂ -R₁) %/ (NPV₁ – NPV₂)

       = 48 % + [$ 28.82 x (48 % - 47 %)/ [$ 28.82 – (-$ 4.28)]

       = 48 % + ($ 28.82 x 0.01)/ ($ 28.82 + $ 4.28)

       = 48 % + ($ 0.2882 / $ 33.10)

       = 48 % + 0.008706948640

       = 48 % + 0.8706948640 %

       = 48.9 %

The rate of return on incremental investment is 48.9 %