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The internal rate of return (IRR) refers to the compound annual rate of return that a project generates based on its b up-front cost and
The internal rate of return (IRR) refers to the compound annual rate of return that a project generates based on its b up-front cost and subsequent cash flows. Consider the case of Free Spirit Industries: Consider the following case: Free Spirit Industries is evaluating a proposed capital budgeting project (project Sigma) that will require an initial investment of $850,000 Free Spirit Industries has been basing capital budgeting decisions on a project's NPV; however, its new CFO wants to start using the IRR method for capital budgeting decisions. The CFO says that the IRR is a better method because returns in percentage form are easier to understand and compare to required returns. Free Spirit Industries's WACC is 8%, and project Sigma has the same risk as the firm's average project. The project is expected to generate the following net cash flows: Which of the following is the correct calculation of project Year Cash Flow Sigma's IRR? Year 1 $275,000 O 21.48% Year 2 $400,000 26.85% Year 3 $450,000 25.51% O 24.17% Year 4 $425,000
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