EBK CONTEMPORARY FINANCIAL MANAGEMENT
14th Edition
ISBN: 9781337514835
Author: MOYER
Publisher: CENGAGE LEARNING - CONSIGNMENT
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The internal rate of return (IRR) refers to the compound annual rate of return that a project generates based on its up-front cost and subsequent cash flows. Consider this case:
Falcon Freight is evaluating a proposed capital budgeting project (project Delta) that will require an initial investment of $1,500,000.
Falcon Freight has been basing capital budgeting decisions on a project’s NPV; however, its new CFO wants to start using the IRR method for capital budgeting decisions. The CFO says that the IRR is a better method because percentages and returns are easier to understand and to compare to required returns. Falcon Freight’s WACC is 9%, and project Delta has the same risk as the firm’s average project.
The project is expected to generate the following net cash flows:
|
Year
|
Cash Flow
|
|---|---|
| Year 1 | $300,000 |
| Year 2 | $425,000 |
| Year 3 | $475,000 |
| Year 4 | $450,000 |
Which of the following is the correct calculation of project Delta’s IRR?
4.06%
2.95%
3.69%
3.51%
If this is an independent project, the IRR method states that the firm should .
If the project’s cost of capital were to increase, how would that affect the IRR?
The IRR would not change.
The IRR would increase.
The IRR would decrease.
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