Question

In: Finance

1. Net present value (NPV) Evaluating cash flows with the NPV method The net present value...

1. Net present value (NPV)

Evaluating cash flows with the NPV method

The net present value (NPV) rule is considered one of the most common and preferred criteria that generally lead to good investment decisions.

Consider this case:

Suppose Celestial Crane Cosmetics is evaluating a proposed capital budgeting project (project Beta) that will require an initial investment of $2,225,000. The project is expected to generate the following net cash flows:

Year

Cash Flow

Year 1 $300,000
Year 2 $400,000
Year 3 $450,000
Year 4 $425,000

Celestial Crane Cosmetics’s weighted average cost of capital is 8%, and project Beta has the same risk as the firm’s average project. Based on the cash flows, what is project Beta’s NPV?

-$934,674

-$534,674

-$634,674

-$1,121,609

Making the accept or reject decision

Celestial Crane Cosmetics’s decision to accept or reject project Beta is independent of its decisions on other projects. If the firm follows the NPV method, it should_________ project Beta.

Suppose your boss has asked you to analyze two mutually exclusive projects—project A and project B. Both projects require the same investment amount, and the sum of cash inflows of Project A is larger than the sum of cash inflows of project B. A coworker told you that you don’t need to do an NPV analysis of the projects because you already know that project A will have a larger NPV than project B. Do you agree with your coworker’s statement?

*No, the NPV calculation will take into account not only the projects’ cash inflows but also the timing of cash inflows and outflows. Consequently, project B could have a larger NPV than project A, even though project A has larger cash inflows.

*Yes, project A will always have the largest NPV, because its cash inflows are greater than project B’s cash inflows.

*No, the NPV calculation is based on percentage returns, so the size of a project’s cash flows does not affect a project’s NPV.

Solutions

Expert Solution


Related Solutions

1. Net present value (NPV) Evaluating cash flows with the NPV method The net present value...
1. Net present value (NPV) Evaluating cash flows with the NPV method The net present value (NPV) rule is considered one of the most common and preferred criteria that generally lead to good investment decisions. Consider this case: Suppose Cold Goose Metal Works Inc. is evaluating a proposed capital budgeting project (project Alpha) that will require an initial investment of $450,000. The project is expected to generate the following net cash flows: Year Cash Flow Year 1 $325,000 Year 2...
1. Net present value (NPV) Evaluating cash flows with the NPV method The net present value...
1. Net present value (NPV) Evaluating cash flows with the NPV method The net present value (NPV) rule is considered one of the most common and preferred criteria that generally lead to good investment decisions. Consider this case: Suppose Happy Dog Soap Company is evaluating a proposed capital budgeting project (project Beta) that will require an initial investment of $3,000,000. The project is expected to generate the following net cash flows: Year Cash Flow Year 1 $300,000 Year 2 $475,000...
Evaluating cash flows with the NPV method The net present value (NPV) rule is considered one...
Evaluating cash flows with the NPV method The net present value (NPV) rule is considered one of the most common and preferred criteria that generally lead to good investment decisions. Consider this case: Suppose Happy Dog Soap Company is evaluating a proposed capital budgeting project (project Alpha) that will require an initial investment of $600,000. The project is expected to generate the following net cash flows: Year Cash Flow Year 1 $350,000 Year 2 $475,000 Year 3 $425,000 Year 4...
Find the net present value (NPV) for the following series of future cash flows, assuming the...
Find the net present value (NPV) for the following series of future cash flows, assuming the company’s cost of capital is 6.64 percent. The initial outlay is $339,858. Year 1: 163,676 Year 2: 147,656 Year 3: 123,800 Year 4: 178,407 Year 5: 149,077 Round the answer to two decimal places.
The NPV (net present value) of Plan Alpha is $ (130,539) The NPV (net present value)...
The NPV (net present value) of Plan Alpha is $ (130,539) The NPV (net present value) of Plan Beta is $ 233,001 The IRR (internal rate of return) of Plan Alpha is $ 19.36 %. The IRR (internal rate of return) of Plan Beta is $ 21.25 %. Which​ plan, if​ any, should the company​ pursue? Based on the results​ above, the company should pursue Plan Beta because the NPV is positive and the IRR is greater than the​ company's...
Net present value (NPV)The net present value (NPV) rule is considered one of the most...
Net present value (NPV)The net present value (NPV) rule is considered one of the most common and preferred criteria that generally lead to good investment decisions.Consider this case:Suppose Pheasant Pharmaceuticals is evaluating a proposed capital budgeting project (project Beta) that will require an initial investment of $2,225,000. The project is expected to generate the following net cash flows:YearCash FlowYear 1$275,000Year 2$475,000Year 3$450,000Year 4$450,000Pheasant Pharmaceuticals’s weighted average cost of capital is 8%, and project Beta has the same risk as the...
Why NPV considered to be a superior method of evaluating the cash flows from a project...
Why NPV considered to be a superior method of evaluating the cash flows from a project and what is the NPV criterion decision rule? Explain.
The Basics of Capital Budgeting: NPV The net present value (NPV) method estimates how much a...
The Basics of Capital Budgeting: NPV The net present value (NPV) method estimates how much a potential project will contribute to -Select-business ethicsshareholders' wealthemployee benefitsCorrect 1 of Item 1, and it is the best selection criterion. The -Select-smallerlargerCorrect 2 of Item 1 the NPV, the more value the project adds; and added value means a -Select-higherlowerCorrect 3 of Item 1 stock price. In equation form, the NPV is defined as: CFt is the expected cash flow at Time t, r...
This week we learn the Net Present Value (NPV) methodology for evaluating alternative approaches in the...
This week we learn the Net Present Value (NPV) methodology for evaluating alternative approaches in the rational decision process. Fundamental to this methodology is forecasting future cash flows, both cash coming in and cash going out. The net cash flow forecast is "discounted" using an "appropriate" discount rate. Reflect on the use of the NPV methodology -its benefits, its shortcomings. Why is the NPV tool so powerful? What are its shortcomings? What data do you need to conduct an analysis...
What are the payback and NPV (net present value) methods of evaluating capital projects? Which is...
What are the payback and NPV (net present value) methods of evaluating capital projects? Which is considered the best evaluation method, and why is one better than the other?
ADVERTISEMENT
ADVERTISEMENT
ADVERTISEMENT