Question

You became very successful just recently and are looking for some promising investment. You have been offered the following investment opportunity in China: if you invest $18,000 today, you will receive $6,000 two years from now, $8,000 four years from now, and $8,000 six years from now. a) What is the NPV of the opportunity if the interest rate is 4% per year? Should you take this opportunity? b) What is the NPV of the opportunity if the interest rate is 2% per year? Should you take this opportunity?

Answer 1

Present value of inflows=cash inflow*Present value of discounting factor(rate%,time period)

At 4%:

Present value of inflows=6000/1.04^2+8000/1.04^4+8000/1.04^6

=$18708.29

NPV=Present value of inflows-Present value of outflows

=$18708.29-$18000

=$708.29(Approx).

Hence since NPV is positive;project should be undertaken.

At 2%:

Present value of inflows=6000/1.02^2+8000/1.02^4+8000/1.02^6

=$20261.55

NPV=Present value of inflows-Present value of outflows

=$20261.55-$18000

=$2261.55(Approx).

Hence since NPV is positive;project should be undertaken.