Project ZZQ requires an initial outlay of $500,000 and has a profitability index of 1.4.The project is expected to generate equal annual cash flows over the next ten years.The required return for this project is 16%.What is project ZZQ's internal rate of return?
A) 19.88%
B) 22.69%
C) 24.78%
D) 26.12%

Question

Quizplus · Accepted Answer

To find the internal rate of return (IRR), we need to calculate the discount rate at which the present value of project ZZQ's future cash flows equals the initial investment of $500,000. We can use the profitability index to calculate the present value of the project's cash flows as follows:

Profitability index = present value of future cash flows / initial investment

1.4 = PV / $500,000

PV = $700,000

With annual cash flows of $70,000 ($700,000 divided by 10), we can use a financial calculator or spreadsheet to find the IRR that sets the present value of these cash flows equal to $500,000. The IRR for project ZZQ is 26.12% (rounded to two decimal places), which is higher than the required return of 16%. This means that the project is likely to be profitable and a good investment. Therefore, the best choice is D.

Project ZZQ Requires an Initial Outlay of $500,000 and Has