Alfarsi industries uses the net present value method to make investment decision

Question

Alfarsi industries uses the net present value method to make investment decisions and requires a 15% annual return on all investments. The company is considering two different investments. Each require an initial investment of $14,500 and will produce cash flows as follows: End of Year Investment 1 $9,500 $0 9,500 9,500 28,500 3 The present value factors of $1 each year at 15% are: 0.8696 2 0.7561 0.6575 The present value of an annuity of $1 for 3 years at 15% is 2.2832 The net present value of Investment B is:

Explanation / Answer

Net present value = present value of cash inflows - present value of cash outflow

Present value of cash outflows= initial investment= 14500

Present value of cash inflows:

since in project B there is only one inflow at the end of year 3, it is discounted to present using present value discount factor applicable for 3 years, 15% which is= 0.6575

Present value of cash flow at the end of year 3= 28500* 0.6575= 18738.75

NPV= 18738.75 - 14500= 4238.75

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