(Net present value calculation) Big Steve\'s, makers of swizzle sticks, is consi

Question

(Net present value calculation) Big Steve's, makers of swizzle sticks, is considering the purchase of a new plastic stamping machine. This investment requires an initial outlay of $100,000 and will generate net cash inflows of $18,000 per year for 10 years. a. What is the project's NPV using a discount rate of 10 percent? Should the project be accepted? Why or why not? b. What is the projects NPV using a discount rate of 15 percent? Should the project be accepted? Why or why not? c. What is this project's internal rate of return? Should the project be accepted? Why or why not? a. If the discount rate is 10 percent, then the project's NPV is $. (Round to the nearest dollar.)

Explanation / Answer

Answer a.

Initial Investment = $100,000
Net Cash Flows = $18,000
Period = 10 years
Discount Rate = 10%

NPV = -$100,000 + $18,000 * PVIFA(10%, 10)
NPV = -$100,000 + $18,000 * (1 - (1/1.10)^10) / 0.10
NPV = -$100,000 + $18,000 * 6.14457
NPV = $10,602

This project should be accepted as NPV is positive.

Answer b.

Initial Investment = $100,000
Net Cash Flows = $18,000
Period = 10 years
Discount Rate = 15%

NPV = -$100,000 + $18,000 * PVIFA(15%, 10)
NPV = -$100,000 + $18,000 * (1 - (1/1.15)^10) / 0.15
NPV = -$100,000 + $18,000 * 5.01877
NPV = -$9,662

This project should be rejected as NPV is negative.

Answer c.

Initial Investment = $100,000
Net Cash Flows = $18,000
Period = 10 years

Let IRR be i%

NPV = -$100,000 + $18,000 * PVIFA(i%, 10)
0 = -$100,000 + $18,000 * PVIFA(i%, 10)

Using financial calculator, i = 12.41%

IRR of the project is 12.41%

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