Question

You have been offered a unique investment opportunity. If you invest

$11,800

?today, you will receive $590

one year from? now, $1,770

two years from? now, and $11,800 ten years from now.

a. What is the NPV of the opportunity if the cost of capital is

5.8 % per? year? Should you take the? opportunity?

b. What is the NPV of the opportunity if the cost of capital is

1.8 %1.8%

per? year? Should you take it? now?

Answer 1

The cash flows for the available proposition will be as given below:

Year 0 = $ 11800 outflow

Year 1 = $ 590

Year 2 = $ 1770

Year 10= $ 11800

(a) Opportunity Cost of Capital = 5.8%

Proposition NPV = - 11800 + [590 / (1.058)] + [1770 / (1.058)^(2)] + [11800 / (1.058)^(10)] = - $ 2946.4088 approximately

As the NPV is negative one should not take up this project.

(b)

Opportunity Cost of Capital = 1.8%

Proposition NPV = - 11800 + [590 / (1.018)] + [1770 / (1.018)^(2)] + [11800 / (1.018)^(10)] = $ 359.5069 approximately

As the NPV is positive one should not take up this project.