The Rodriguez Company is considering an average-risk investment in a mineral wat

Question

The Rodriguez Company is considering an average-risk investment in a mineral water spring project that has a cost of $150,000. The project will produce 750 cases of mineral water per year indefinitely. The current sales price is $150 per case, and the current cost per case is $110. The firm is taxed at a rate of 39%. Both prices and costs are expected to rise at a rate of 6% per year. The firm uses only equity, and it has a cost of capital of 16%. Assume that cash flows consist only of after-tax profits, since the spring has an indefinite life and will not be depreciated.

What is the NPV of the project? Do not round intermediate steps. Round your answer to the nearest hundred dollars. $ ________

Explanation / Answer

Answer

Profit per case = $150 - $110 = $40

Profit after tax = $40 * (1 - 0.39) = $24.40

Profit for 750 cases = $24.40 * 750 = $18,300

Now, Real Discount Rate = 16% - 6% = 10%

Discounting profit at 10% = $18,300 / 10% = $183,000

NPV = $183,000 - $150,000 = $33,000

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