Question

Shultz Business Systems is analyzing an average-risk project, and the following data have been developed. Unit sales will be constant, but the sales price should increase with inflation. Fixed costs will also be constant, but variable costs should rise with inflation. The project should last for 3 years, it will be depreciated on a straight-line basis, and there will be no salvage value. This is just one of many projects for the firm, so any losses can be used to offset gains on other firm projects. What is the project's expected NPV?

Project cost of capital (r)	10.0%
Net investment cost (depreciable basis)	$200,000
Units sold	50,000
Average price per unit, Year 1	$25.00
Fixed op. cost excl. deprec. (constant)	$150,000
Variable op. cost/unit, Year 1	$20.20
Annual depreciation rate	33.333%
Expected inflation rate per year	5.00%
Tax rate	40.0%

a. $15,925

b. $16,764

c. $18,528

d. $19,455

e. $17,646

Answer 1

Based on the given data, pls find below workings:

The answer is (e). NPV is $17,646

Computation:

Computation of Net Present Value (NPV) based on the Discounted Cash flows; The Discounting factor is computed based on the formula: For year 0, the discounting factor is 1; For Year 1, it is computed as = Year 0 factor /(1+discounting factor%) ; Year 2 = Year 1 factor/(1+discounting factor %) and so on;

Next, the cashflows need to be multiplied with the respective years' discounting factor, to arrive at the discounting cash flows;

The total of all the discounted cash flows is equal to its respective Project NPV of the Cash Flows;