1 .) Bob Davies must decide whether to invest $100,000 in his own business or in
ID: 1181417 • Letter: 1
Question
1.) Bob Davies must decide whether to invest $100,000 in his own business or in another local business. Both investment projects have an expected life of five years. The cash flow of each is as follow:
Year
Davies
Other
1
$20,000
$10,000
2
$30,000
$10,000
3
$40,000
$30,000
4
$10,000
$40,000
5
$5,000
$50,000
Suppose the risk of the projects is the same and is accounted for by a risk premium of 6 percent per year. Would either investment make sense? Which would be better? Please Explain. Thank-you.
Year
Davies
Other
1
$20,000
$10,000
2
$30,000
$10,000
3
$40,000
$30,000
4
$10,000
$40,000
5
$5,000
$50,000
Explanation / Answer
The Net present value of both investment options will have to be calculated for decision makig here.
Bob will be better off when investing in another local business as this option will have a positive Net Present value. A positive Net Present Value means that the investment will grow in present value terms over the period of time.
If Investment is made in own business: Year Cash Flow P.V. Factor @ 6% P.V. of Cash Flow 0 $ -1,00,000.00 1.00000 $ -1,00,000.00 1 $ 20,000.00 0.94340 $ 18,867.92 2 $ 30,000.00 0.89000 $ 26,699.89 3 $ 40,000.00 0.83962 $ 33,584.77 4 $ 10,000.00 0.79209 $ 7,920.94 5 $ 5,000.00 0.74726 $ 3,736.29 Net Present Value $ -9,190.18 If Investment is made in another local business: Year Cash Flow P.V. Factor @ 6% P.V. of Cash Flow 0 $ -1,00,000.00 1.00000 $ -1,00,000.00 1 $ 10,000.00 0.94340 $ 9,433.96 2 $ 10,000.00 0.89000 $ 8,899.96 3 $ 30,000.00 0.83962 $ 25,188.58 4 $ 40,000.00 0.79209 $ 31,683.75 5 $ 50,000.00 0.74726 $ 37,362.91 Net Present Value $ 12,569.16Related Questions
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