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The Lunch Counter is expanding and expects operating cash flows of $32,500 a year for seven years as a result
The Lunch Counter is expanding and expects operating cash flows of $32,500 a year for seven years as a result. This expansion requires $28,000 in new fixed assets. These assets will be worthless at the end of the project. In addition, the project requires $2,800 of net working capital throughout the life of the project. What is the Cash flow for the last year of the project (note that the investment in the net working capital will be recovered at the end of the project).
a) What is the net present value of the project at a required rate of return of 14 percent? (round your answer to two decimal places).
Expert Solution
Cash flow for the last year of the Project
Cash flow for the last year of the Project = Annual operating cash flow + Release of net working capital
= $32,500 + $2,800
= $35,300
Net Present Value (NPV) of the Project
|
Year |
Annual cash flows ($) |
Present Value Factor (PVF) at 14.00% |
Present Value of annual cash flows ($) [Annual cash flow x PVF] |
|
|
|
|
|
|
1 |
32,500 |
0.877193 |
28,508.77 |
|
2 |
32,500 |
0.769468 |
25,007.69 |
|
3 |
32,500 |
0.674972 |
21,936.57 |
|
4 |
32,500 |
0.592080 |
19,242.61 |
|
5 |
32,500 |
0.519369 |
16,879.48 |
|
6 |
32,500 |
0.455587 |
14,806.56 |
|
7 |
35,300 |
0.399637 |
14,107.20 |
|
|
|
|
|
|
TOTAL |
140,488.89 |
||
|
|
|
|
|
Initial investment cost
Initial investment cost = Investment in new fixed assets + Net working capital required
= $28,000 + $2,800
= $30,800
Net Present Value (NPV)
Net Present Value (NPV) = Present value of annual cash inflows – Initial investment cost
= $140,488.89 - $30,800
= $109,688.89
Hence, the Net Present Value (NPV) of the Project will be $109,688.89
NOTE
The Formula for calculating the Present Value Factor is [1/(1 + r)n], Where “r” is the Discount/Interest Rate and “n” is the number of years.
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