Question

?IRR, investment? life, and cash inflows???Oak Enterprises accepts projects earning more than the? firm's 12?% cost of capital. Oak is currently considering a 12?-year project that provides annual cash inflows of ?$30,000 and requires an initial investment of ?$242,800. ? (?Note: All amounts are after? taxes.)

a.??Determine the IRR of this project. Is it? acceptable?

b.??Assuming that the cash inflows continue to be ?$30,000 per? year, how many additional years would the flows have to continue to make the project acceptable? (that is, to make it have an IRR of 12?%)?

c.??With the given? life, initial? investment, and cost of? capital, what is the minimum annual cash inflow that the firm should? accept?

Answer 1

Year	Cash Flows	PVF@5%	PV	PVF@10%	PV
0	-242800	1	-242800	1	-242800
1	30000	0.952381	28571.43	0.9090909	27272.73
2	30000	0.907029	27210.88	0.8264463	24793.39
3	30000	0.863838	25915.13	0.7513148	22539.44
4	30000	0.822702	24681.07	0.6830135	20490.4
5	30000	0.783526	23505.78	0.6209213	18627.64
6	30000	0.746215	22386.46	0.5644739	16934.22
7	30000	0.710681	21320.44	0.5131581	15394.74
8	30000	0.676839	20305.18	0.4665074	13995.22
9	30000	0.644609	19338.27	0.4240976	12722.93
10	30000	0.613913	18417.4	0.3855433	11566.3
11	30000	0.584679	17540.38	0.3504939	10514.82
12	30000	0.556837	16705.12	0.3186308	9558.925
	NPV		23097.55		-38389.2
IRR	5 + 23097.55/61486.79 * 5				6.878%
Hence the Project is not acceptable as the IRR is less than the expected return we want the return of 12% but it provides only 6.878%
Answer (b)
The total number of years at which the project becomes acceptable with same cash flows are
30000 * PVAF(12% , n)		=	242800
Therefore PVAF(12%,n)		=	8.093333
Therefore n = 31 years (approx)
Answer ( c )
The minimum Cash inflow a company can accept for the given? life, initial? investment, and cost of? capital to make the project acceptable
let the cash inflow be X
Therefore
X*PVAf(12%,12)		=	242800
X * 6.1943		=	242800
Therefore X		=	242800 / 6.1943
Minimum Cash inflow		=	39197.33