Phoxco is considering automating its production line at a cost of $40,000 to acquire the necessary equipment. The annual cost savings are expected to be $8,000 for 14 years. The firm requires a 20% rate of return. Ignore income taxes.
What is the internal rate of return on this investment?
A) Less than 20%
B) Equal to 20%
C) More than 20%
D) Cannot be determined

Question

Quizplus · Accepted Answer

The internal rate of return (IRR) is the discount rate that makes the net present value (NPV) of the cash flows from an investment equal to zero. In this case, the IRR is less than 20% because the present value of the $8,000 annual savings over 14 years at a 20% discount rate is less than the $40,000 initial investment.

Phoxco Is Considering Automating Its Production Line at a Cost