Question

Consider the following cash flows on two mutually exclusive projects:

Year	Project A			Project B
0	–$	61,000		–$	76,000
1		41,000			40,000
2		36,000			49,000
3		31,000			52,000

  
The cash flows of Project A are expressed in real terms while those of Project B are expressed in nominal terms. The appropriate nominal discount rate is 12 percent and the inflation rate is 3 percent.
  
Calculate the NPV for each project. (Do not round intermediate calculations and round your answers to 2 decimal places, e.g., 32.16.)
  

	NPV
Project A	$
Project B	$

Answer 1

NPV = PV of Cash Inflows - PV of Cash Outflows

Real rate = [ [ 1 + NR ] / [ 1 + IR ] ] - 1

= [ [ 1 + 0.12 ] / [ 1 + 0.03 ] ] - 1

= [ 1.12 / 1.03 ] - 1

= 1.0874 - 1

= 0.0874 i.e 8.74%

Project A:

Year	CF	PVF @8.74%	Disc CF
0	$ -61,000.00	1.0000	$ -61,000.00
1	$ 41,000.00	0.9196	$ 37,704.62
2	$ 36,000.00	0.8457	$ 30,445.55
3	$ 31,000.00	0.7777	$ 24,109.81
NPV			$ 31,259.97

Project B:

Year	CF	PVF @12%	Disc CF
0	$ -76,000.00	1.0000	$ -76,000.00
1	$ 40,000.00	0.8929	$ 35,714.29
2	$ 49,000.00	0.7972	$ 39,062.50
3	$ 52,000.00	0.7118	$ 37,012.57
NPV			$ 35,789.36

Project B: