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Question

ervlet/quiz?quiz action-takeQuiz&quiz;_probGuid-QNAPCOA801010000004194ee500700008ctx-Fan.He-0027&ck-m; 1530 Last Tuesday, Blue Hamster Manufacturing Inc. lost a portion of its pianning and financial data when both its main and its backup servers crashed. The company's CFO remembers that the internal rate of return (IRR) of Project Omicron is 13.2%, but he can't recall how much Blue Hamster originally invested in the project nor the project's net presen Project Omicron. They are: t value (NPV). However, he found a note that detailed the annual net cash flows expected to be generated by Year Cash Flow Year 1 $1,600,000 Year 2 $3,000,000 Year 3 $3,000,000 Year 4 $3,000,000 The CFO has asked you to compute Project Omicron's initial investment using the information currently available to you. He has offered the following suggestions and observations: A project's IRR represents the return the project would generate when its NPV is zero or the discounted value of its cash inflows equals the discounted value of its cash outflows-when the cash flows are discounted using the project's IRR. . . The level of risk exhibited by Project Omicron is the same as that exhibited by the company's average project, which means that Project Omicron's net cash flows can be discounted using Blue Hamster's 10%WACC. , and its NPV is Given the data and hints, Project Omicron's initial investment is (rounded to the nearest whole dollar) if the project's cash inflows increase, and everything else is unaffected, A project s IRR will rch

Explanation / Answer

Internal Rate of Return 13.20% Net Present value(NPV) of Cash Flows discounted at internal rate of return=Zero OR, (PV of positive cash flows)-(Initial Investment)=0 OR, PV of positive cash flows=Initial Investment Present Value (PV) of Cash Flow: (Cash Flow)/((1+i)^N) i=Discount Rate=Internal Rate of Return=12.2%=0.132 N=Year of Cash Flow N A PV=A/(1.132^N) Year Cash Flow PV of Cash flow 1 $1,600,000 $1,413,428 2 $3,000,000 $2,341,145 3 $3,000,000 $2,068,150 4 $3,000,000 $1,826,987 SUM $7,649,710 PV of Positive Cash flows= $7,649,710 Initial Investment in the Project= $7,649,710 CALCULATION OF NPV OF THE PROJECT Discount Rate=WACC=10%=0.1 Present Value (PV) of Cash Flow: (Cash Flow)/(1.1^N) N A PV=A/(1.1^N) Year Cash Flow PV of Cash flow 1 $1,600,000 $1,454,545 2 $3,000,000 $2,479,339 3 $3,000,000 $2,253,944 4 $3,000,000 $2,049,040 SUM $8,236,869 X PV of Positive Cash flows= $8,236,869 Y Initial Investment in the Project= $7,649,710 NPV=X-Y Net Present Value of the project $587,159

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