Question

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A capacity alternative has an initial cost of $75,000 and $35,000 salvage value. It creates cash flow (income) of $15,000 for each of the next five years. If the cost of capital is 12 percent (i =12%), what is the net present value of this investment?

Answer 1

Present value factor

= 1 / (1 + r) ^ n

Where,

r = Rate of interest = 12% or 0.12

n = Years = 0 to 5

So, PV Factor for year 2 will be

= 1 / (1.12 ^ 2)

= 1 / 1.2544

= 0.797193

Other calculations are shown in the following table

Calculations	Particulars
	Years	0	1	2	3	4	5
A	Initial Cash Flow	(75,000)	-	-	-	-	-
B	Terminal cash flow	-	-	-	-	-	35,000
C	Annual cash flow	-	15,000	15,000	15,000	15,000	15,000
D = A+B+C	Net cash flows	(75,000)	15,000	15,000	15,000	15,000	50,000
E	PV Factor	1.000000	0.892857	0.797194	0.711780	0.635518	0.567427
F = D x E	Present Value	(75,000)	13,393	11,958	10,677	9,533	28,371
G = Sum F	Net Present Value	(1,068)

So, the net present value is $ - 1,068