npv and irr

Question

An electric utility is considering a new power plant in northern Arizona. Power from the plant would be sold in the Phoenix area, where it is badly needed. Because the firm has received a permit, the plant would be legal; but it would cause some air pollution. The company could spend an additional $40 million at Year 0 to mitigate the environmental problem, but it would not be required to do so. The plant without mitigation would cost $270.46 million, and the expected cash inflows would be $90 million per year for 5 years. If the firm does invest in mitigation, the annual inflows would be $94.29 million. Unemployment in the area where the plant would be built is high, and the plant would provide about 350 good jobs. The risk adjusted WACC is 19%.
a.
Calculate the NPV and IRR with mitigation. Round your answers to two decimal places. Enter your answer for NPV in millions. For example, an answer of $10,550,000 should be entered as 10.55.

 

Calculate the NPV and IRR without mitigation. Round your answers to two decimal places. Enter your answer for NPV in millions. For example, an answer of $10,550,000 should be entered as 10.55.

Answer 1

EXCEL is the best way to calculate financial problems. However, Excel does NOT calculate NPV properly because it does NOT allow for the initial cost ( negative cash flow in period 0) to be included.

This problem actually ask us to calculate the REAL NPV ( including initial cost)

 

1.   Without mitigation NPV

 

Excel NPV ( without initial cost) = NPV (19%,90,90,90,90,90)" = $ 275.19   

 

                                               FORMULA =NPV(rate,value1,[value2],[value3]------) 

 

Real NPV = PV + Initial coat = 275.19 + (-270.46) =   4.73 million -positive

 

2.   With mitigation NPV

 

Excel PV ( without initial cost) = NPV (19%,94.29,94.29,94.29,94.29,94.29)" = $ 288.30

 

Real NPV = PV + Initial coat = 288.30 + (-270.46) + (-40) = -22.16 million - negative

3. without mitigation IRR

 

Excel formula =IRR(range of cash flows including initial cost)

 

In this formula, you have to input the cash flow numbers in Excel then select the data range.

 

If you don't want to input the data, you can use Texas Baii plus Financial calculator:

a.     Press CF key then input -270.46, hit ENTER key. (the screen will show CF0= -270.46)

b.     press down arrow, then input 90, hit ENTER key  (CO1=90 , it means cash flow in period1=90 million)

c.     Press down arrow, input 5, hit Enter key. (FO1=5, it means the 90 cash flow repeats 5 times)

d.     press IRR key, then hit CPT. ( IRR= 19.75%)

 

4. with mitigation IRR

 

use the method above, initial cost = -270.46 + (-40) = -310.46       IRR= 15.74%