Question

Evaluating a capital budgeting project that costs $40,000 that is expected to generate after-tax cash flows of $15,000 per year for three years. If the required rate of return is 10 percent calculate the project’s (a) NPV and (b) IRR. Should the project be purchased?

This is for a review

Please show steps and rationale for project purchase.

Answer 1

Net present value is solved using a financial calculator. The steps to solve on the financial calculator:

• Press the CF button.
• CF0= -$40,000. It is entered with a negative sign since it is a cash outflow.
• Cash flow for all the years should be entered.
• Press Enter and down arrow after inputting each cash flow.
• After entering the last cash flow, press the NPV button and enter the required rate of return of 10%.
• Press the down arrow and CPT buttons to get the net present value.

Net Present value of cash flows at 10% required rate of return is -$2,697.22

c.Internal rate of return is calculated using a financial calculator by inputting the below:

• Press the CF button.
• CF0= -$90,000. It is entered with a negative sign since it is a cash outflow.
• Cash flow for each year should be entered.
• Press Enter and down arrow after inputting each cash flow.
• After entering the last cash flow cash flow, press the IRR and CPT button to get the IRR of the project.

The IRR of the project is 6.13%.

I would recommend that the project should be purchased since it generates a since negative net present value.

In case of any query, kindly comment on the solution