I worked all of the correct answers, but I am stuck on the last one for part C.
ID: 2755657 • Letter: I
Question
I worked all of the correct answers, but I am stuck on the last one for part C.
You are deciding between two mutually exclusive investment opportunities. Both require the same initial investment of $10.3 million. Investment A will generate $2.13 million per year (starting at the end of the first year) in perpetuity. Investment B will generate $1.59 million at the end of the first year, and its revenues will grow at 2.1% per year for every year after that. Which investment has the higher IRR? Which investment has the higher NPV when the cost of capital is 6.5%? In this case, when does picking the higher IRR give the correct answer as to which investment is the best opportunity?Explanation / Answer
Answer-c
NPV(A) = 2.13/r – 10.3
And NPV(B) = 1.59/(r – 0.021) – 10.3
Setting NPV(A) = NPV(B) = 0
And solving for r we get:
2.13/r - 10.3 = 1.59/(r – 0.021) – 10.3
0.54r = 0.04473
r = 0.08283333
Therefore required IRR = 8.28333%