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Chapter 20. Building Discount Formulas > Calculating the Internal Rate of Retur...

Calculating the Internal Rate of Return

In the earlier example with varying cash flows, the discount rate was set to 10% because that was the minimum return required in today's dollars over the first 5 years after purchasing the equipment. This rate of return of an investment based on today's dollars is called the internal rate of return. It's actually defined as the discount rate required to get a net present value of $0.

In the equipment example, using a discount rate of 10% produced a net present value of $881. This is a positive amount, which means that the equipment actually produced an internal rate of return higher than 10%. What, then, was the actual internal rate of return?


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