Tutorial: Net Present Value & IRR

Q. 1. Mr. Vats is available with Rs. 1,00,000. He has two options available with him:
i.
ii.

Keep the money with him.

Invest into a bank fixed deposit.

Given:
a. Inflation Rate 6% per annum.
b. FD interest rate 11% per annum.
c. Time 2 years
Calculate the return in both the cases.
Answer.
i. Mr. Vats keep the money with him:
The market value would be eroded due to the inflation. Accordingly, the purchase value of the
money after 2 years would be equivalent to:
Principle Amount
(1+inflation rate)time
= 1,00,000/ (1 + 0.06)2
= 1,00,000/ (1.06)2
= Rs. 88,999.644
Alongwith this, he will be losing the opportunity of earning the return from the bank.
ii. Mr. Vats invests the money in the bank FD:
The market value would be eroded due to the inflation and at the same time the money would
grow due to the interest paid by the bank. Accordingly, the net value of the money after 2 years
would be equivalent to:
Principle Amount (1 + interest rate)time
(1+inflation rate)time
= 1,00,000 (1 + 0.11)2 / (1 + 0.06)2
= 1,00,000 (1.11)2 / (1.06)2

= 123210 / (1.06)2
= Rs. 109656.4614

Q. 2. Mr. Vishal is in the process of investing Rs. 25,00,000 in a bottled water project. The
projected cash flows are Rs. 2,00,000 (1 year), Rs. 5,00,000 (2 year), Rs. 7,00,000 (3 year), Rs.
8,00,000 (4 year), Rs. 7,00,000 (5 year) and Rs. 11,00,000 (6 year).
The cost of the capital is 15%.
i.
ii.
iii.

Calculate the NPV of the project.

Calculate the IRR of the project.
Calculate the MIRR of the project.

Answer.
i. Net Present Value (NPV): Rs. 100 today is not equal to Rs. 100 tomorrow or after 1 year due
to three factors. These are:
a. Inflation
b. Time
c. Risk
Hence, it is necessary to have all the values converted to the same time so as to make them
comparable.
NPV = CF0 + CF1 + CF2 + .
(1 + r) (1 + r)2

NPV=-2500000+200000+500000+700000+800000+700000+1100000
(1+0.15) (1+0.15)2 (1+0.15)3 (1+0.15)4 (1+0.15)5 (1+0.15)6

NPV=-2500000+175913.04+378071.83+4600261.36+457402.6+348023.7+475560.36
NPV = -2500000 + 2295032.89
NPV = Rs. - 2,04,967.11
ii. Internal Rate of Return (IRR): IRR (r) is the rate of return at which the NPV of any series
of cash flows is equal to zero.
Now, as the cash flows are of uneven nature, we need to use hit and trial method.
While calculating NPV in Part i, it is negative at 15%, hence we need to use a lower discount
rate to find out the IRR.
So, let us try 13%
NPV 2500000

200000
500000
700000
800000
700000
1100000

2
3
4
5
1 0.13 (1 0.13) (1 0.13) (1 0.13) (1 0.13) (1 0.13) 6

NPV 2500000

200000 500000 700000 800000

700000
1100000

1.13
1.2769 1.442897 1.63047 1.8424352 2.08195

NPV 2500000 176991.15 391573.34 485135.11 490656.07 379931.95 528350.82

NPV 47361.56
Now, let us try 12%

NPV 2500000

200000
500000
700000
800000
700000
1100000

2
3
4
5
1 0.12 (1 0.12) (1 0.12) (1 0.12) (1 0.12) (1 0.12) 6

NPV 2500000 178571.43 398596.94 498246.17 508414.46 397198.8 557294.233

NPV 38322.0333
So, this is well understood that the IRR (r) lies in between 12% and 13%. To find out the exact
value of IRR, the following step is required:

IRR 12

38322.0333
x(13 12)
47361.56 38322.0333

IRR 12 0.44725
IRR 12.44725%