A firm wishes to bid on a contract that is expected to yieldthe following after-

Question

A firm wishes to bid on a contract that is expected to yieldthe following after-tax net cash flows at the end of eachyear: year            netcash flow 1                  $5,000 2                  $8,000 3                  $9,000 4                  $8,000 5                  $8,000 6                  $5,000 7                  $3,000 8                  $-1,500 To secure the contract, the firm must spend $30,000 to retoolits plant. This retooling will have no salvage value at theend of the eight years. Comparable investment alternativesare available to the firm that earn 12 percent compoundedannually. The depreciation tax benefit from the retooling isreflected in the net cash flows in the table. a) compute the project's net present value. b) should the project be adopted? c) what is the meaning of the computed net present valuefigure? A firm wishes to bid on a contract that is expected to yieldthe following after-tax net cash flows at the end of eachyear: year            netcash flow 1                  $5,000 2                  $8,000 3                  $9,000 4                  $8,000 5                  $8,000 6                  $5,000 7                  $3,000 8                  $-1,500 To secure the contract, the firm must spend $30,000 to retoolits plant. This retooling will have no salvage value at theend of the eight years. Comparable investment alternativesare available to the firm that earn 12 percent compoundedannually. The depreciation tax benefit from the retooling isreflected in the net cash flows in the table. a) compute the project's net present value. b) should the project be adopted? c) what is the meaning of the computed net present valuefigure?

Explanation / Answer

Year

Cash Inflows

PV Factor at 12%

Net Present Value

Net Present Value

(a) Calculating NetPresent Value (NPV):

Year

Cash Inflows

PV Factor at 12%

Net Present Value

0 ($30,000.00) 1 ($30,000.00) 1 $5,000.00 0.8929 $4,464.50 2 $8,000.00 0.7972 $6,377.60 3 $9,000.00 0.7118 $6,406.20 4 $8,000.00 0.6355 $5,084.00 5 $8,000.00 0.5674 $4,539.20 6 $5,000.00 0.5066 $2,533.00 7 $3,000.00 0.4523 $1,356.90 8 ($1,500.00) 0.4039 ($605.85)

Net Present Value

$155.55 (b) Here the Project has Positive NetPresent Value (NPV). Thus, the Project should be accepted. (c ) Computed NPV is the Present Valueof an investment's future net cash flows minus the       initialinvestment. If the NPV is positive, the investment should beaccepted otherwise it       shouldbe rejected.

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