Anderson International Limited is evaluating a project in Erewhon. The project w
ID: 2772449 • Letter: A
Question
Anderson International Limited is evaluating a project in Erewhon. The project will create the following cash flows:
All cash flows will occur in Erewhon and are expressed in dollars. In an attempt to improve its economy, the Erewhonian government has declared that all cash flows created by a foreign company are “blocked” and must be reinvested with the government for one year. The reinvestment rate for these funds is 5 percent.
If Anderson uses a required return of 9 percent on this project, what are the NPV and IRR of the project?(Negative amount should be indicated by a minus sign. Do not round intermediate calculations and round your final answers to 2 decimal places. (e.g., 32.16))
Anderson International Limited is evaluating a project in Erewhon. The project will create the following cash flows:
Explanation / Answer
Given
Cash flows will be blocked for 1 year and reinvested at 5%. That is the cash flow at the end of year 1 is reinvested for one year in the same country and received along with interest at 5% at the end of year 2.
Cash Flows
Reinvestment rate (5)% for 1 year
Future Value of cash flows
Formula for Present value of cash flows @12%
= 383250 /1.09^2
= 451500/1.09^3
= 341250/1.09^4
= 294000/1.09^5
Present Value of Cash Flows
Total Present Value of Cash Flows = $ 1,103,052.26
Initial Outlay = $ 1,190,000.00
Net Present Value = - $ 86,947.74
Modified IRR = (Future Value of positive cash flows/present value of initial outlay)^1/4
Total Future value of cash flows = (1,470,000/1,190,000)^1/5 - 1= 1.235294^1/5 – 1
= 1.0431675 – 1 = 0.0431675 or 4.32% (rounded off)
Reinvestment rate (5)% for 1 year
Future Value of cash flows
Formula for Present value of cash flows @12%
= 383250 /1.09^2
= 451500/1.09^3
= 341250/1.09^4
= 294000/1.09^5
Present Value of Cash Flows