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Interpolation Formula

IPCC 65648 views 4 replies

Resham

Carpe Diem !!!

6535 Points Posted on 21 October 2010

Can anyone provide me the formula for interpolation used in Capital Budgeting?

Thanks in advance.

Replies (4)

Quick Summary

Provides interpolation formula used in capital budgeting to calculate IRR using two discount rates and their NPVs. Includes method for equal and unequal cash flows and steps using payback factor and present value tables.

Mangesh

Chartered Accountant

50 Points Posted on 21 October 2010

IRR =Start rate+(NPV at start rate / NPV at start rate - NPV at end rate) X Difference between rate.

VUELVE

CA- Student

351 Points Posted on 22 October 2010

Hello

Here is the formula to calculate IRR

IRR = Lowest Discount Rate + [NPV at Lower rate * (Higher Rate - Lower Rate) / (NPV at Lower Rate - NPV at Higher Rate)]

For eg:- Say there are two discount rates for instance 10% & 20% and also let us say NPV at 10% is +29,150 and at 20% is -19,350. Then IRR would be as follows :

IRR = 10% + [ 29,150*(20%-10%)/(29,150+19,350)]

IRR = 16.01%

NOTE : - This formula is useful when there is unequal Cash Inflows.

Regards,

CA PCC Student - FA

VUELVE

CA- Student

351 Points Posted on 22 October 2010

When there is equal Cash Inflows :

(a) Long Life Project : -

When life is at least twice that of payback period.

Steps :

1. Calculate Payback Factor

2. Look into PV Tables

(b) Short Life Project: -

When life is less than the twice of payback period.

Steps:

1. Find two discount rates within which this value lies in the table.

IRR = Lower Discount Rate + [ (PV annuity Factor at Lower Rate - Payback Factor) / (PV annuity factor at Lower Rate - PV annuity Factor at Higher Rate)]

Payback Factor = Cash Outflow / Annual Cash Flow after tax

Regards,

CA PCC Student - FA