In: Finance
Your factory has been offered a contract to produce a part for a new printer. The contract would last for 3 years and your cash flows from the contract would be $5.23 million per year. Your upfront setup costs to be ready to produce the part would be $7.88million. Your discount rate for this contract is 8.2 %.
a. What does the NPV rule say you should do?
b. If you take the contract, what will be the change in the value of your firm?
a. What does the NPV rule say you should do?
The NPV of the project is $______ million. (Round to two decimal places.)
b. If you take the contract, what will be the change in the value of your firm? __________.
Answer a | ||||||
Calculation of NPV of the project | ||||||
Year | Cash flow (in millions) | Discount Factor @ 8.2% | Present Value (in millions) | |||
0 | -$7.88 | 1.00000 | -$7.88 | |||
1 | $5.23 | 0.92421 | $4.83 | |||
2 | $5.23 | 0.85417 | $4.47 | |||
3 | $5.23 | 0.78944 | $4.13 | |||
NPV of the project | $5.55 | |||||
The NPV of the project is $5.55 million. | ||||||
NPV rule said you should take up the project as if NPV is positive. | ||||||
Answer b | ||||||
If you take the contract, the value of your firm will increase by $5.55 millions. | ||||||