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Question. Suppose you were offered a loan. What would make you more inclined to accept it? a decrease in the loan ’ s interest rate? a decrease in your discount rate? Why does the IRR of the following cash-flow not exist? Pay $250 now and pay $100 in two years. Potential Projects (N p489).

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  1. Question • Suppose you were offered a loan. What would make you more inclined to accept it? • a decrease in the loan’s interest rate? • a decrease in your discount rate? • Why does the IRR of the following cash-flow not exist? • Pay $250 now and pay $100 in two years

  2. Potential Projects (N p489) • Cost $100k, IRR=20% • Cost $200k, IRR=15% • Cost $50k, IRR=25% • Cost $100k, IRR=20% • Cost $100k, IRR=20% • Cost $100k, IRR=18% • Cost $300k, IRR=10% • Cost $300k, IRR=12% • Cost $50k, IRR=14% • Budget $650k • MARR = IRR of highest ranked unfunded project

  3. Summary • IRR = d  NPV(d) = 0 • For investments: NPV(d) > 0  IRR > d • For loan: NPV(d) > 0  IRR < d • MARR = “Minimum Attractive Rate of Return” • discount rate • “external rate of return” • rate of return of best external alternative • NPV > 0 implies • project worth doing • Usual criterion: • alternative with largest NPV is best

  4. More… • Investment project cashflows • first negative then positive and NPV(d) is … … decreasing • NPV(d) increasing for loans • IRR • Don’t need MARR. • Can be used in capital budgeting to set MARR. • Problematic when cashflows switch signs more than once (or never)

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