You are a consultant to a firm evaluating an expansion of its current business.
ID: 2752817 • Letter: Y
Question
You are a consultant to a firm evaluating an expansion of its current business. The cash-flow forecasts (in millions of dollars) for the project are as follows: Years Cash Flow 0 220 1–10 +20 a. On the basis of the behavior of the firm’s stock, you believe that the beta of the firm is 1.6. Assuming that the rate of return available on risk-free investments is 8% and that the expected rate of return on the market portfolio is 10%, what is the net present value of the project? (Negative amount should be indicated by a minus sign. Round your answer to 2 decimal places.) NPV $ b. Should the project be accepted? No Yes
Explanation / Answer
Expected return = Rf+×Rp
Rf is risk free return
Rp is risk premium
= 8%+1.6×(10%-8%)
= 11.2%
NPV is negative, project should not be accepted.
Year Cash flow PVF@11.2% Present value 0 $ -220 1.000 $ (220.00) 1 $ 20 0.899 $ 17.99 2 $ 20 0.809 $ 16.17 3 $ 20 0.727 $ 14.55 4 $ 20 0.654 $ 13.08 5 $ 20 0.588 $ 11.76 6 $ 20 0.529 $ 10.58 7 $ 20 0.476 $ 9.51 8 $ 20 0.428 $ 8.55 9 $ 20 0.385 $ 7.69 10 $ 20 0.346 $ 6.92 Net present value $ (103.20)Related Questions
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