Consider projects A and B: Which project does the IRR rule suggest is best?

Consider projects A and B:

	Cash Flows (dollars)
Project	C0	C1	C2	NPV at 11%
A	−38,000	27,400	27,400	+$8,923
B	−58,000	41,000	41,000	+12,213

a. Calculate IRRs for A and B.

Explanation
Some values below may show  as rounded for display purposes, though unrounded numbers should be used for actual calculations.

a.
IRR_A = discount rate (r), which is the solution to the following equation:

C × [10.21 − 10.21 × (1.21)8] = $500
IRR_B = discount rate (r), which is the solution to the following equation:

$41,000 × [1r− 1r × (1+r)2] = $58,000 ⇒ r= IRRB= 26.55%
b. & c.
The IRR of project A is 28.30%, and that of B is 26.55%. However, project B has the higher NPV and therefore is preferred.

Calculator computations:

CF0	=	−38,000
CO1	=	27,400 FO1 = 2
IRR CPT	=	28.30

 

CF0	=	−58,000
CO1	=	41,000 FO1 = 2
IRR CPT	=	26.55

Thank you!