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(Net present value calculation) Big Steve's, makers of swizzle sticks, is considering the purchase of a...
(Net present value calculation) Big Steve's, makers of swizzle sticks, is considering the purchase of a new plastic stamping machine. This investment requires an initial outlay of $95,000 and will generate net cash inflows of $21,000 per year for 9 years. a. What is the project's NPV using a discount rate of 8 percent? Should the project be accepted? Why or why not? b. What is the project's NPV using a discount rate of 16 percent? Should the project be accepted? Why or why not? c. What is this project's internal rate of return? Should the project be accepted? Why or why not?
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Expert Solution
a
| Discount rate | 8.000% | |||||||||
| Year | 0 | 1 | 2 | 3 | 4 | 5 | 6 | 7 | 8 | 9 |
| Cash flow stream | -95000 | 21000 | 21000 | 21000 | 21000 | 21000 | 21000 | 21000 | 21000 | 21000 |
| Discounting factor | 1.000 | 1.080 | 1.166 | 1.260 | 1.360 | 1.469 | 1.587 | 1.714 | 1.851 | 1.999 |
| Discounted cash flows project | -95000.000 | 19444.444 | 18004.115 | 16670.477 | 15435.627 | 14292.247 | 13233.562 | 12253.298 | 11345.647 | 10505.228 |
| NPV = Sum of discounted cash flows | ||||||||||
| NPV Project = | 36184.65 | |||||||||
| Where | ||||||||||
| Discounting factor = | (1 + discount rate)^(Corresponding period in years) | |||||||||
| Discounted Cashflow= | Cash flow stream/discounting factor | |||||||||
Accept project as NPV is positive
b
| Discount rate | 16.000% | |||||||||
| Year | 0 | 1 | 2 | 3 | 4 | 5 | 6 | 7 | 8 | 9 |
| Cash flow stream | -95000 | 21000 | 21000 | 21000 | 21000 | 21000 | 21000 | 21000 | 21000 | 21000 |
| Discounting factor | 1.000 | 1.160 | 1.346 | 1.561 | 1.811 | 2.100 | 2.436 | 2.826 | 3.278 | 3.803 |
| Discounted cash flows project | -95000.000 | 18103.448 | 15606.421 | 13453.811 | 11598.113 | 9998.373 | 8619.287 | 7430.420 | 6405.535 | 5522.013 |
| NPV = Sum of discounted cash flows | ||||||||||
| NPV Project = | 1737.42 | |||||||||
| Where | ||||||||||
| Discounting factor = | (1 + discount rate)^(Corresponding period in years) | |||||||||
| Discounted Cashflow= | Cash flow stream/discounting factor | |||||||||
Accept project as NPV is positive
c
| IRR is the rate at which NPV =0 | ||||||||||
| IRR | 16.52% | |||||||||
| Year | 0 | 1 | 2 | 3 | 4 | 5 | 6 | 7 | 8 | 9 |
| Cash flow stream | -95000.000 | 21000.000 | 21000.000 | 21000.000 | 21000.000 | 21000.000 | 21000.000 | 21000.000 | 21000.000 | 21000.000 |
| Discounting factor | 1.000 | 1.165 | 1.358 | 1.582 | 1.844 | 2.148 | 2.503 | 2.917 | 3.399 | 3.960 |
| Discounted cash flows project | -95000.000 | 18022.125 | 15466.523 | 13273.315 | 11391.111 | 9775.811 | 8389.566 | 7199.895 | 6178.924 | 5302.731 |
| NPV = Sum of discounted cash flows | ||||||||||
| NPV Project = | 0.000 | |||||||||
| Where | ||||||||||
| Discounting factor = | (1 + discount rate)^(Corresponding period in years) | |||||||||
| Discounted Cashflow= | Cash flow stream/discounting factor | |||||||||
| IRR= | 16.52% | |||||||||
Accept project as IRR is more than discount rate of 8% or 16%
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