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Excel 2007: Financial Analysis

Calculating internal rate of return


From:

Excel 2007: Financial Analysis

with Curt Frye

Video: Calculating internal rate of return

Calculating an investment's internal rate of return enables you to identify the interest rate at which the investment's future cash flows have a net present value of zero. In other words, your formula tells you the discount rate at which you would break even on a given investment. If the IRR formula returns a value greater than the interest rate generated by risk-free investments, you should take the plunge. If not, then you should pass on the opportunity. The IRR function has two arguments, a range of values that reflects future cash flows, and optionally, a guess at the rate of return.
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  1. 2m 6s
    1. Welcome
      1m 8s
    2. Using the exercise files
      32s
    3. Disclaimer
      26s
  2. 13m 20s
    1. Separating inputs and formulas
      2m 2s
    2. Avoiding common mistakes
      5m 39s
    3. Tracing formula precedents and dependents
      2m 52s
    4. Evaluating Excel formulas step by step
      2m 47s
  3. 18m 40s
    1. Tracking income and expenses using an Excel table
      3m 29s
    2. Creating a Pivot Table from table data
      3m 36s
    3. Pivoting a Pivot Table
      2m 22s
    4. Filtering a Pivot Table
      3m 11s
    5. Adding Pivot Table columns to enhance data analysis
      3m 5s
    6. Tracking cash flow using a Pivot Chart
      2m 57s
  4. 18m 48s
    1. Reading a corporate financial statement
      6m 1s
    2. Introducing common-sizing strategies for analyzing financial statements
      3m 59s
    3. Creating common-sized income statements
      3m 1s
    4. Creating common-sized balance sheets
      2m 53s
    5. Calculating percentage changes in financial statements
      2m 54s
  5. 8m 12s
    1. Calculating earnings per share
      1m 54s
    2. Calculating return on equity and return on assets
      2m 50s
    3. Calculating gross profit margin and net profit margin
      3m 28s
  6. 6m 19s
    1. Calculating the current ratio and quick ratio
      2m 47s
    2. Calculating the average collection period
      1m 56s
    3. Calculating inventory turnover
      1m 36s
  7. 6m 12s
    1. Calculating the equity ratio
      1m 26s
    2. Calculating the debt ratio
      2m 57s
    3. Calculating the times interest earned ratio
      1m 49s
  8. 10m 58s
    1. Calculating simple interest and compound interest
      3m 36s
    2. Applying nominal versus effective interest rates (APR versus APY)
      3m 21s
    3. Calculating the number of days between events
      4m 1s
  9. 13m 32s
    1. Computing the future value of an investment
      3m 30s
    2. Calculating present value
      2m 29s
    3. Calculating net present value
      2m 42s
    4. Calculating internal rate of return
      2m 24s
    5. Calculating NPV and IRR for uneven input periods (XNPV and XIRR)
      2m 27s
  10. 7m 30s
    1. Projecting future results using the Forecast function
      2m 9s
    2. Performing quick forecasts using the Fill handle
      2m 57s
    3. Adding a trendline to a chart
      2m 24s
  11. 22m 28s
    1. Introducing amortization
      2m 20s
    2. Calculating payments on a fully amortized loan
      2m 21s
    3. Calculating payments on a partially amortized loan (balloon payments)
      2m 4s
    4. Calculating interest and principal components of loan repayments
      5m 32s
    5. Introducing depreciation
      2m 1s
    6. Calculating straight line depreciation
      1m 30s
    7. Calculating declining balance depreciation
      3m 24s
    8. Calculating double declining balance depreciation
      3m 16s
  12. 9m 34s
    1. Introducing bonds and bond terminology
      1m 37s
    2. Calculating a bond's yield
      2m 15s
    3. Calculating the value of zero coupon bonds
      3m 18s
    4. Pricing bonds to be offered to investors
      2m 24s
  13. 23s
    1. Goodbye
      23s

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Excel 2007: Financial Analysis
2h 18m Intermediate Aug 25, 2009

Viewers: in countries Watching now:

Numbers and financial data drives today's business world and Excel 2007: Financial Analysis can help decode this information. The proper understanding of these numbers, and the formulas behind them, can be the gateway to corporate and personal success. Microsoft MVP (Most Valuable Professional) Curt Frye teaches basic fluency in corporate finance, enabling users to see the meaning behind essential financial calculations. Curt explains how to review formulas to ensure they have the proper inputs, and shows how to interpret formula output. He also covers how to calculate leverage ratios and amortization and depreciation schedules, as well as forecast future growth. Exercise files accompany this course.

Topics include:
  • Building a financial worksheet with Pivot Tables Reviewing financial statements through common-sized balance sheets Calculating percentage change over time in financial statements Determining profitability ratios and return on investments Studying liquidity and activity ratios through an average collection period Computing the future value of an investment
Subjects:
Business Data Analysis Finance
Software:
Excel
Author:
Curt Frye

Calculating internal rate of return

Calculating an investment's internal rate of return enables you to identify the interest rate at which the investment's future cash flows have a net present value of zero. In other words, your formula tells you the discount rate at which you would break even on a given investment. If the IRR formula returns a value greater than the interest rate generated by risk-free investments, you should take the plunge. If not, then you should pass on the opportunity. The IRR function has two arguments, a range of values that reflects future cash flows, and optionally, a guess at the rate of return.

Excel starts by guessing at a rate of 10 %, which will work in most cases, but in extreme cases, you should start the guessing at a higher or lower value. The investment cash flows may be positive representing income to you, or negative representing an expense to you but they must all occur at regular intervals, such as monthly or annually. So, let's take a look at the two investments that I have summarized in my worksheet. We have two investments, one, with an initial investment of $100,000 and payments of these amounts for five years, then we have the same $100,000 investment but we have payments over 6 years.

So the idea is to determine which of the two has the better internal rate of return. To do that, we input our IRR formulas and the values go from A4 to A9. I won't put it in a guess because I think Excel's default starting value of 10% will allow it to find the answer that it needs. So I'll just close the parenthesis, hit Return, and we see that this investment has an internal rate of return of 5.73%. Now, let's do the same thing for the second investment, =IRR, and the values are in the range of D4 to D10.

Again, I'm not going to put it in the guess because I think the default value is fine. I'll close the parenthesis, hit Return, and we see that the second investment has an internal rate of return of 5.47%. So we should go with the first investment. If an investment's internal rate of return is higher than the discount rate, you assume for your risk-free investments, such as your treasury bills. You should go ahead with the new plan assuming the risks of the new investment aren't too great. The riskier in investment, the more you should adjust the internal rate of return to account for the possibility that the investment might fail.

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