Exercise 26-11 Your answer is incorrect. Try again. Iggy Company is considering

Question

Exercise 26-11 Your answer is incorrect. Try again. Iggy Company is considering three capital expenditure projects. Relevant data for the projects are as follows. Annual Life of Project Investment Income Project $240,900 $17,590 6 years 72,300 20,790 9 years 15,700 7 years 22A 23A 24A 281,500 Annual income is constant over the life of the project. Each project is expected to have zero salvage value at the end of the project. Iggy Company uses the straight-line method of depreciation. Click here to view PV table Click here to view PV of Annuity table.

Explanation / Answer

Internal Rate of Return

Project 22A

11%

Project 23A

12%

Project 24A

9%

If Iggy’s Company’s Required rate of return is 11% , Then Project 22A and Project 23A Should be selected Since the IRR Exceeds the required rate of return

Projects Acceptable

Project 22A and Project 23A

Workings

Depreciation Project 22A = 240900 / 6 = $40150

Depreciation Project 23A = 272300 / 9 = $30256

Depreciation Project 24A = 281500 / 7 = $40214

Annual cash flow = Net Income + Depreciation

Project 22A = 17590 + 40150 = 57740

Project 23A = 20790 + 30256 = 51046

Project 24A = 15700 + 40214 = 55914

IRR Determination

Project 22A

Internal Rate of Return Factor          = Net Initial Investment / Annual Cash Flow

                                                = $240900 / 57740 = 4.172151

From the Present Value Annuity Factor Table, We can find that the discount rate (IRR) corresponding to the factor of 4.172151 for 6 Years Will be 11%

Project 23A

Internal Rate of Return Factor          = Net Initial Investment / Annual Cash Flow

                                                = $272300 / 51046 = 5.3344

From the Present Value Annuity Factor Table, We can find that the discount rate (IRR) corresponding to the factor of 5.3354 for 9 Years Will be 12%

Project 24A

Internal Rate of Return Factor = Net Initial Investment / Annual Cash Flow

                                                = $281500 / 55914 = 5.0345

From the Present Value Annuity Factor Table, We can find that the discount rate (IRR) corresponding to the factor of 5.0345 for 7 Years Will be 9%

Internal Rate of Return

Project 22A

11%

Project 23A

12%

Project 24A

9%

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