Problem 1: When funds for capital investments are limited, projects can be ranked using a present value index. A project with a negative net present value will have a present value index below 1.0. Also, it is important to note that a project with the largest net present value may, in fact, return a lower present value per dollar invested.

Let's look at an example of how to determine the present value index.

The company has a project with a 5-year life, an initial investment of $220,000, and is expected to yield annual cash flows of $56,000. What is the present value index of the project if the required rate of return is set at 8%?

Present value index = Total present value of net cash flows

Initial investment

Calculation Steps: Note: Round total present value of net cash flows and initial investment to nearest dollar. Round present value index to two decimal places.

Present value index = ??????? = ????

220,000

Question 2:

How do you present value of annuity of $1 at Compound Interest?

Present Value of an Annuity of $1 at Compound Interest.

IRR Factor = $ ????=???? , (rounded to 6 decimals)

$????

The calculated factor corresponds to which percentage in the present value of ordinary annuity table?____%

Question 2:

How do you present value of annuity of $1 at Compound Interest?

Present Value of an Annuity of $1 at Compound Interest.

IRR Factor = $ ????=???? , (rounded to 6 decimals)

$????

The calculated factor corresponds to which percentage in the present value of ordinary annuity table?????%

Problem 2: Internal Rate of Return Method

The internal rate of return (IRR) method uses present value concepts to compute the rate of return from a capital investment proposal based on its expected net cash flows. This method, sometimes called the time-adjusted rate of return method, starts with the proposal's net cash flows and works backward to estimate the proposal's expected rate of return.

A Company has a project with a 4-year life, requiring an initial investment of $182,900, and is expected to yield annual cash flows of $54,000. What is the internal rate of return?

IRR Factor (a)= Investment (b)

Annual cash flows (c)

(a) IRR Factor: This is the factor which you'll use on the table for the present value of an annuity of $1 dollar in order to find the percentage which corresponds to the internal rate of return.

(b)Investment: This is the present value of cash outflows associated with a project. If all of the investment is up front at the beginning of the project, the present value factor is 1.000.

(c)Annual Cash Flows: This is the amount of cash flows to be received annually as a result of the project.