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A sixth project F is causing confusion particularly among members of the board of Easter co whose sole means of appraising project is to find an IRR using spreadsheet function on their computers. The summarized cashflows of project F are as follows
Time 0 Invest $4m
Time 1 Receive $8.8m
Time 2 Spend $4.83mThe spreadsheet function requires you to enter the cashflow of a project and also enter a guess for the IRR. The directors are struggling to guess the IRR for this 6th project
What is the likely cause of confusion over project F?
a)It has a single IRR between 5% and 10%
b)It has 2 positive IRRs
c)It has no real IRRs
d)It has one +ve and one -ve IRRSir correct ans is B but please can you explain
For every change of sign in the cash flows, there is potentially one IRR.
Usually, projects have an initial (negative) outflow followed by (positive) inflows. So then there is only one IRR.
Project F has an outflow followed by inflow followed by outflow. So there are two changes of sign – negative, to positive, to negative – and therefore there are potentially 2 IRR’s.
You will never be asked to calculate multiple IRR’s, but you are expected to be aware of the fact that they may exist.
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