midterm 2 questions 2 - 4

Form A:

Year | A | B | C |

0 | 10 | 10 | 10 |

1 | -15 | 0 | 0 |

2 | 0 | -15 | 0 |

3 | 0 | 0 | -15 |

**2. What is the internal rate of return of asset C?**

This is a loan problem. You can tell because the benefits

are given (it is positive) in year 0. Afterwards the loan

must be repaid.

To find IRR: PW= 0 = 10 -15/(1 + i)^3

rearranging: 10 = 15/(1 + i)^3

(1 + i)^3 = 15/10

i = (15/10)^(1/3) - 1

i = 14.47%

**3. Which asset has the highest internal rate of return?**

The correct answer is A: IRR = 50%. You set up the problem like 2 only

the (1 + i) term is raised to the power of 1 and not 3.

**4. In an unconstrained choice environment which assets would you purchase
if your minimum acceptable rate of return was 20%?**

The correct answer is C: IRR < MARR

The criteria is reversed because the assets are all loans.

page revision: 8, last edited: 25 Jun 2010 20:18