Sometimes the company wishes to know the internal rate of return (IRR) ie. the yield of a capital project. The company may operate a cut-off point in respect to projects and should a project’s yield be below this target or threshold it will be rejected. The method is to discount cash flows using different discount rates until the NPV = 0. At that point the total present value of the cash flows is equal to the outlay on the project. The discount rate which produces a NPV = 0 is the internal rate of return of the project. In effect, the company could borrow money at a rate of interest equal to the internal rate of return to finance the project and the returns from the project would allow the company to break even. If the company’s target rate of return for capital projects is less than a project’s yield (IRR) the project is worth consideration.
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