You have just completed the forecasting process for a new project, and computed

Question

You have just completed the forecasting process for a new project, and computed the project’s net present value to be ($500,000). You then want to understand the effect on this new project’s net present value of a $500,000 after-tax cash flow increase in time period 3. Will the project’s revised NPV be greater than 0, equal to 0, or less than 0? Explain your answer carefully. No calculations are required.

If a project’s NPV is positive using a 10% discount rate, what happens to the project's NPV if the discount rate is changed to 8%? Briefly explain your answer.

Explanation / Answer

Answer:

The revised project NPV will still be less than '0'.

explanation:

To calulate the revised NPV, the Discounted cashflow of the year 3, inflow of $500,000 is required to be calculated and added to the negetive NPV to see, if it turns positive.

The discount factor for the cashflow in year three is certainly be less than 1, whatever be the discount rate because of the concept of diminishing time value of money.

So the discounted cashflow will certainly be less than $500,000. Hence this can not offset the entire negetive NPV at t=0, of $500,000, to make it postive. So the NPV will still remain negetive or less than '0'.

b) Ans - It will remain postive and higher than the original NPV.

Explanation:

If a project NPV is decresed to 8% from 10%, than the indivisual discount factors increses from it's original values and ultimately the NPV increses.

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