Question

You invest $100,000 into the production of a film. You receive $20,000 in royalties for two years, net of tax. In year three you sell the international distribution rights (i.e. you have a cash inflow) for $55,000, net of tax, and receive full royalties that year of $20,000. After that, your royalties drop down to $15,000 for five years. At the end of those five years (i.e. during year 9) you produce a sequel that costs $200,000. It goes terribly and not only does the sequel make zero money, but your fans label you a sellout and stop renting your movie, so your royalties end immediately (i.e. nothing received in the year of the sequel). While sitting at a bar, you wonder if this was ever a good idea financially. You create a net present value analysis of the above and use a cost of capital of 15%. What is the NPV? Besides the initial cost of $100,000, assume all cash flows and sequel cost occur at the end of their respective year.

Answer 1

Net Present Value (NPV) is the difference between the present value of cash inflow and the present value of cash outflows over a period of time.

We are given in the ques,

Cash Outflow initially = $100,000

Cash inflow in year 1 and 2 = $20,000

Cash inflow in year 3 = $50,000 + $20,000 = $75,000

Cash inflow from year 4 to 8 = $15,000

Cash outflow for year 9 = $200,000

We can calculate the NPV using excel,

Calculation of NPV
Year	0	1	2	3	4	5	6	7	8	9
Cashflow	-$1,00,000	$20,000	$20,000	$75,000	$15,000	$15,000	$15,000	$15,000	$15,000	-$2,00,000
Rate of return	15%
Net present value	-$36,490

NPV ​= -100,000 + 20000​/(1+0.15)^1 + 20000​/(1+0.15)^2............ -200000​/(1+0.15)^9

As the NPV is negative, that means the present value of outflows were more than inflows. On this investment, the person incurred a loss and it wasn't a feasible investment.