Confused on a simple IB math technical, am I overthinking?
Here’s a technical question I came across on liquidityshark while prepping that I’m not sure how interviewers want you to handle.
You invest $100 today and receive $110 in one year and $121 in two years. What is the IRR on this investment?
I can get different answers depending on whether I treat the cash flows as compounding or independent and whether I think of the $121 as inclusive of the $110 or not.
In an interview, would you ask to clarify, or is there a standard assumption people expect?
it depends on how you interpret the cash flows. There are two interpretations.
#1: The $121 is the final value (no cash flow at Year 1)
In this case, IRR is the annualized return over two years:
100(1+𝐼𝑅𝑅)^2=121
100(1+IRR)
(1+𝐼𝑅𝑅)^0.5=1.21
1+IRR=1.1
IRR=0.1
#2: You receive $110 at Year 1 and $121 at Year 2
-100+110/(1+IRR)+121/(1+IRR)^2 = 0
So, just use intuition, since interpretation 1 is easier mathematically and more straightforward, that's probably what they want. But it also can't hurt to clarify.
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