Calculate that yield Assessing whether the expense of starting a business is worth it is a necessary task. With the method of Internal Rate of Return (IRR), it is possible to analyze the investment of a specific project. In the calculation, the liquid present value is equated with future income or cash on hand.
That investment analysis It is a mission of corporate governance as its goal is to create value for the organization. In order to perform the IRR calculation, it is important to project a cash flow that shows the inflows and outflows of all the funds that the company moves.
The Importance of Yield
Companies are increasingly having to adapt to the effects and competition rivalry. For this, it is essential to make investments in different areas, to know the details of the expenses, to have appropriate planning and to put them into practice.
In addition, good management will analyze them cost-benefit for the company, considering whether or not the money that comes back compensates for the investment. In order to calculate the internal rate of return and evaluate the feasibility of the project, it is necessary to forecast the cash flow, which shows the initial investment and the expected results in specific time periods.
When we talk about IRR it is important to understand what Net Present Value (NPV) is. That is a Calculating the amount of future payments, added to cost at today’s value. An example: R$ 1 million will not be worth that much in a year’s time because it will earn interest and thus increase in value by investing in savings.
The fundamental difference between calculating NPV and IRR is that the result of the former is expressed in monetary valuesand those of the second in percent. Authors Stephen Ross, Rondolph Westerfield, and Jeffrey Jaffe state in their book Principles of Financial Management that “the IRR of an investment is the expected rate of return that will result in an NPV of zero when used as a discount rate.”
With this analysis it will be possible to know if the deal is bringing advantages or if the same money is invested, it is better to save it or invest it in another investment.
How to calculate internal rate of return
To calculate the rate of return and assess the viability of the business, you should only use Excel’s IRR function or use a scientific calculator. The calculation is based on the initial investment and is accompanied by a series of positive cash flows.
Follow the instructions below for better understanding Example:
An initial investment of R$100,000 which will yield a return of R$60,000 in the first year plus R$60,000 the following year. Since we don’t know the internal rate of return for this deal, we perform the following calculations, starting by equating to VPN Stole:
NPV=0 = -100R$+60R$/ (1+IRR) + 60R$/(1+IRR)²
To calculate the IRR, the only way is by trial and error with a calculator or Excel.
Testing at a rate of 10%, the calculation would be:
NPV = 0 = -R$100 + R$60/ 1.1 + R$60/ 1.10² = R$4.13.
The essay for a 15% rate would be:
NPV=0 = -R$100+R$60/ 1.15 + R$60/ 1.15² = – R$2.46.
That is, for zero net present value, the rate must be between 10% and 15% such that the return on this project is somewhere in that interval. With detailed calculation, an IRR of 13.1% is reached, ie if the project’s required rate of return is less than 13.1, the project must be accepted; if it is larger, the project must be rejected because it does not achieve the expected results.