Page 226 - BA2 Integrated Workbook - Student 2017

Chapter 14

5.2 Constant annual cash flows

In the same way that we can speed up the NPV and payback calculations when we
have constant annual cash flows, we can also speed up the IRR calculation in the
same situation.

For annuities, the quicker method involves setting the NPV to zero and using the
cumulative present values tables to ‘work backwards’ to work out the discount rate.

For perpetuities the following formula can be used to calculate the IRR:

Annual cash inflow
IRR = —————————
Initial investment

5.3 Advantages and disadvantages of IRR

 Considers the time value of  Complicated to calculate
money
 Not a measure of absolute
 Relative measures therefore profitability
easy to compare investments
 Only provides an estimate
 Uses cash flow

 Considers the whole life of
the project

 Should maximise shareholder
wealth

Go over illustration 8 for IRR with annuities

Go over illustration 9 for IRR with perpetuities

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