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Lecture9

Lecture9 - Lecture 1 Internal Rate of Return 2 Choosing...

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Lecture 2/04/08 1. Internal Rate of Return 2. Choosing Best Among Multiple Projects Using PV Analysis 3. Capital Cost Terminology

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Annual Discount Factor Denoted by v v = (1+ i/m) -m if interest is nominal = (1+j) -1 if interest is effective In our last example v = (1+ .10/2) -2 =.907
Internal Rate of Return (IRR) The effective interest rate that makes the present value of a project equal to zero. Solution Procedure 1. Express PV in powers of v. 2. Solve PV(v) = 0 for v. 3. For the appropriate v values, solve for j using equation v = (1+j) -1 => j = 1/v - 1

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IRR for Previous Example 0 500v v 200 -100v PV 2 0 = + - =
IRR for Previous Example 0 1 - v 2 5v 0 500v v 200 -100v PV 2 2 0 = - = + - =

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IRR for Previous Example 0 c bx ax For 0 1 - v 2 5v 0 500v v 200 -100v PV 2 2 2 0 = + + = - = + - =
IRR for Previous Example 2a ac 4 b b - x 0 c bx ax For 0 1 - v 2 5v 0 500v v 200 -100v PV 2 2 2 2 0 - ± = = + + = - = + - =

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IRR for Previous Example 5 6 1 2(5) (5)(-1) 4 (-2) (-2) - v 2a ac 4 b b - x 0 c bx ax For 0 1 - v 2 5v 0 500v v 200 -100v PV 2 2 2 2 2 0 ± = - ± = - ± = = + + = - = + - =
IRR for Previous Example V= .689898 , -.289898 j = .44949 , -4.44949 = 44.95% , IRR = 44.95% Not considered

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Lecture9 - Lecture 1 Internal Rate of Return 2 Choosing...

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