Question

You run a construction firm. You have just won a contract to build a government office complex. Building it will require an investment of $ 10.3 million today and $ 5.2 million in one year. The government will pay you $ 21.9 million in one year upon the​ building's completion. Suppose the interest rate is 10.8 %

.a. What is the NPV of this​ opportunity?

b. How can your firm turn this NPV into cash​ today?

a. What is the NPV of this​ opportunity?

The NPV of the proposal is $______ million. ​(Round to two decimal​ places.)

Answer 1

Requirement (a)-Net Present Value (NPV) of the Opportunity

Net Present Value (NPV) = Present Value of the cash inflows – Present Value cash outflows

Present Value of cash inflows

Present Value of cash inflows = $219,00,000 / (1 + 0.1080)¹

= $219,00,000 / 1.1010

= $1,97,65,342.96

Present Value of cash outflows

Present Value of cash outflows = [$103,00,000 / 1.0000] + [$52,00,000 / (1 + 0.1080)¹]

= [$103,00,000 / 1.0000] + [$52,00,000 / 1.1080]

= $103,00,000 + $46,93,140.79

= $1,49,93,140.79

Therefore, the Net Present Value (NPV) = Present Value of the cash inflows – Present Value cash outflows

= $1,97,65,342.96 - $1,49,93,140.79

= $47,72,202.17

Requirement (b)

-Firstly, the firm would borrow $19.77 million today and pay the borrowed amount with 10.80% by using the $21.90 million it will receive from the government (19.77 x 1.1080 = 21.90).

-Then the firm can utilize $10.30 million from the borrowed amount of $19.77 million to cover the costs today and save $4.69 million in the bank to earn 10.80% interest to cover its cost of $5.20 Million (4.69 × 1.10.80) in next year.