The Yurdone Corporation wants to set up a private cemetery business. According t
ID: 2651863 • Letter: T
Question
The Yurdone Corporation wants to set up a private cemetery business. According to the CFO, Barry M. Deep, business is "looking up". As a result, the cemetery project will provide a net cash inflow of $91,000 for the firm during the first year, and the cash flows are projected to grow at a rate of 3 percent per year forever. The project requires an initial investment of $1,440,000.
What is the NPV for the project if Yurdone's required return is 12 percent? (Negative amount should be indicated by a minus sign. Do not round intermediate calculations and round your final answer to 2 decimal places. (e.g., 32.16))
The company is somewhat unsure about the assumption of a 3 percent growth rate in its cash flows. At what constant growth rate would the company just break even if it still required a return of 12 percent on investment? (Round your answer to 2 decimal places. (e.g., 32.16))
The Yurdone Corporation wants to set up a private cemetery business. According to the CFO, Barry M. Deep, business is "looking up". As a result, the cemetery project will provide a net cash inflow of $91,000 for the firm during the first year, and the cash flows are projected to grow at a rate of 3 percent per year forever. The project requires an initial investment of $1,440,000.
Explanation / Answer
a. NPV = present value of inflows+present value of outflows
Present value of inflow at the end of 1st year = 91,000/1.12^1 = 81,250 {formula = amount/(1+rate)^time}
From 2nd year onwards, the cash flow will grow forever at 3%. cash flow happenig in 2nd year = 91,000*1.03 = 93,730. value of the perpetual cash flow at the start of 2nd year = amount/discount rate - growth rate
= 93730/0.12-0.03 = 93730/0.09 = $1,041,444.44
value of the perpetual cash flow at the start of 1st year = value of the perpetual cash flow at the start of 2nd year/(1+discount rate)
=$1,041,444.44/1.12 = $929,861.11
Total PV of inflows = 81,250+929,861.11 = $1,011,111.11
PV of outflows (no discounting required, as the outflow happens initially) = $1,440,000
NPV = present value of inflows+present value of outflows
= $1,011,111.11 - $1,440,000 = - $428,888.89
b. at breakeven; NPV is 0.
so PV of inflows = PV of outflows
or, PV of inflows = $1,440,000
Let the growth rate be "x"
PV of 1st year inflow (as calculated earlier) = 91,000/1.12^1 = 81,250
PV of perpetuity at the end of 1st year (using the formula as explained earlier): 93730/0.12 - x
PV of perpetuity at the start of 1st year = [93730/(0.12-x)]/1.12
= 93730/0.1344 - 1.12x
Total PV of inflows = 81,250+93730/0.1344 - 1.12x
now, 81,250+93730/0.1344 - 1.12x = 1,440,000
93730/0.1344 - 1.12x = 1,358,750
0.1344 - 1.12x = 0.06898
1.12x = 0.065417
or x = 0.058408
Thus the growth rate is 0.058408 *100 = 5.84%
Related Questions
drjack9650@gmail.com
Navigate
Integrity-first tutoring: explanations and feedback only — we do not complete graded work. Learn more.