Question

You are a consultant to a firm evaluating an expansion of its current business. The cash-flow forecasts (in millions of dollars) for the project are as follows: Years Cash Flow 0 – 100 1-10 + 17 On the basis of the behavior of the firm’s stock, you believe that the beta of the firm is 1.39. Assuming that the rate of return available on risk-free investments is 6% and that the expected rate of return on the market portfolio is 14%, what is the net present value of the project? (Negative amount should be indicated by a minus sign. Do not round intermediate calculations. Enter your answer in millions of dollars rounded to 2 decimal places.)

 

Answer 1

 

Required return of project (i) = Risk free rate+(Beta of firm *(market expected return - risk free rate))

=6%+(1.39*(14%-6%))

=17.12%

Initial cash outlay at year 0 = -100

It has same PV as -100

Year 1-10 has annual cash flow .....17

number of years (n) =7

Present value of annual cash flows = annual cash inflows*(1-(1/(1+i)^n))/i

=17*(1-(1/(1+17.12%)^10))/17.12%

=78.85183346

NPV = sum of all PV of cash flows

=-100+78.85183346

=-21.14816654

NPV of project is -21.15 million

NPV is negative, so project should not be accepted.

(note:separate first question is answered as per chegg policy)