Your firm is considering an investment that will cost $985,000 today. The investment will produce...

Question:

Your firm is considering an investment that will cost $985,000 today. The investment will produce cash flows of $400,000 in year 1, $200,000 in years 2 through 4, and $250,000 in year 5. The discount rate that your firm uses for projects of this type is 12.75%.

What is the investment's net present value?

Answer and Explanation:

{eq}NPV= -Initial Outlay+\displaystyle\frac{FV}{(1+R)^1}+\displaystyle\frac{FV}{(1+R)^2}+\displaystyle\frac{FV}{(1+R)^3} {/eq}

Where,

  • R= 0.1275
  • Initial Outlay = $985,000

{eq}NPV= -985,000+\displaystyle\frac{400,000}{(1+0.1275)^1}+\displaystyle\frac{200,000}{(1+0.1275)^2}+\displaystyle\frac{200,000}{(1+0.1275)^3}+\displaystyle\frac{200,000}{(1+0.1275)^4}+\displaystyle\frac{250,000}{(1+0.1275)^5} {/eq}

=-985,000+912,582.26

=-$72,417.74

Thus, NPV is -$72,417.74

Project should not be accepted as the NPV is negative.


Learn more about this topic:

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Cost of Capital: Flotation Cost, NPV & Internal Equity

from Corporate Finance: Help & Review

Chapter 3 / Lesson 18
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