11.[Internal Rates of Return] Vail Venture Investors, LLC has recently acquired a 40 percent

equity ownership in Black Hawk Products, Inc. in exchange for a $5 million investment. Vail

Venture Investors is interested in estimating an expected compound rate of return on its

investment. Depending on the success of products currently under development, Vail Venture's

investment in Black Hawk could turn out to be a complete failure (black hole), barely surviving

(living dead), or wildly successful (venture utopia). Vail Venture has assigned probabilities of

.20, .50, and .30, respectively, to the three possible outcomes. Following are the 3 cash flow

scenarios or outcomes for the Black Hawk Products investment that Vail Venture expects to exit

at the end of five years.

Outcome Yr1 Yr2 Yr3 Yr4 Yr5

Black Hole 0 0 0 0 $0

Living Dead 0 0 0 0 $10 million

Venture Utopia 0 0 0 0 $50 million

Part B

Now assume under the venture utopia scenario that, in addition to the $50 million cash inflow in

year 5, there will be an annual $1million preferred dividend (to be paid to Vail Venture Investors

but not other equity investors). Vail Venture expects to receive this $1 million dividend under

the venture utopia scenario in each of the five years that the Black Hawk investment will be

maintained. No preferred annual cash flows are expected under either the black hole or the

living dead scenarios.

A. Calculate the revised internal rate of return for the venture utopia scenario if Vail

Venture's equity ownership stake in Black Hawk Products is 40 percent.

IRR = 26.47%

How is the IRR = 26.47%???