This preview shows pages 1–11. Sign up to view the full content.
This preview has intentionally blurred sections. Sign up to view the full version.
View Full DocumentThis preview has intentionally blurred sections. Sign up to view the full version.
View Full DocumentThis preview has intentionally blurred sections. Sign up to view the full version.
View Full DocumentThis preview has intentionally blurred sections. Sign up to view the full version.
View Full DocumentThis preview has intentionally blurred sections. Sign up to view the full version.
View Full Document
Unformatted text preview: Engineering Economics ECO 1192 Lecture 4: Rates of Return (IRR & ERR) Claude Théoret University of Ottawa Fall 2009 Lecture 4: Rates of Return (IRR & ERR) 2 Recommended Readings Fraser et al.* chapter 3 and 5 • Newnan et al. chapter 7 • Park chapter 5 and 6 Fall 2009 Lecture 4: Rates of Return (IRR & ERR) 3 Lecture objectives Present theory and applications of • internal rate of return (IRR) method • external rate of return (ERR) method Compare project decisionmaking • IRR and ERR • PW & FW • AEW Fall 2009 Lecture 4: Rates of Return (IRR & ERR) 4 Student Numbers Please note that all grades • exams (final and others) • assignments will be recorded electronically based on your student number. My reference will be the student list (names and numbers) provided by the registrar’s office. Hence, it is very important that you indicate an accurate student number on all exams and assignments. No matching student number no grade. Fall 2009 Lecture 4: Rates of Return (IRR & ERR) 5 Project Summary Measures Single sums [last lecture] • PW and FW Annuities (AEW) [last lecture] Rates of return [today] • IRR (internal) • ERR (external) Payback [later] • simple and discounted Fall 2009 Lecture 4: Rates of Return (IRR & ERR) 6 Working Assumptions 1. Discrete cash flow & compounding 2. Ownership or equity capital only (no debt capital) 3. No price changes 4. No uncertainty, no risk 5. No government (no taxes) 6. No imponderables or intangibles Fall 2009 Lecture 4: Rates of Return (IRR & ERR) 7 Examples: Investment Options Investment A Zero coupon bond available for $5,000 today. Bond will have a value of $7,000 in exactly two years. No interest income is paid during the life of this investment. Investment B $5,000 purchase of Speedy Coulomb Co. common shares. Each common share currently sells for $50 today and is expected to reach $60 in two exactly years. Each share pays its owner $3 in annual dividends. • Which investment is better? • Would the rate of return exceed MARR? Fall 2009 Lecture 4: Rates of Return (IRR & ERR) 8 Investment Options You could determine the better investment (A or B) by converting each alternative to a NPW, a NFW or a 2year annuity. But the preferred approach is to 1. Calculate each investment’s internal rate of return [IRR A =18%; IRR B =15%] 2. Compare individual rates of return and MARR 3. Select the “better” investment [A in this case] INTERNAL RATE OF RETURN METHOD (IRR) Fall 2009 Lecture 4: Rates of Return (IRR & ERR) 10 IRR Method: Characteristics and Assumptions 1. Indirect calculation (i.e., trial and error) 2. Project cash inflows are assumed to be reinvested at the calculated rate of return • not very practical in the real world (for example, where can money earn 10.55% today?) 3. Possibility of multiple rates of return • some positive, some negative (Descartes sign rule) • negative rates have no economic meaning...
View
Full
Document
This note was uploaded on 06/23/2010 for the course BIO 2133 taught by Professor Younol during the Fall '09 term at U. Memphis.
 Fall '09
 younol
 Genetics

Click to edit the document details