You are a consultant to a firm evaluating an expansion of its current business. The cash-flow forecasts (in millions of dollars) for the project are as follows:
| Years | Cash Flow | ||
| 0 | – | 100 | |
| 1-10 | + | 16 | |
On the basis of the behavior of the firm’s stock, you believe that the beta of the firm is 1.33. Assuming that the rate of return available on risk-free investments is 6% and that the expected rate of return on the market portfolio is 15%, what is the net present value of the project? (Negative amount should be indicated by a minus sign. Do not round intermediate calculations. Enter your answer in millions of dollars rounded to 2 decimal places.)
Risk free rate= 6%
Beta= 1.33
Market risk premium = market return - risk free rate = 15 - 6 =9%
rate of return (acc to CAPM) = risk free rate + Beta * Market risk premium
= 6 + (1.33 * 9) =17.97 %
The calculation of NPV is shown in the table below:
(The PV factor is calculated acc to formula, PV= 1/(1+0.1797)^n , where n is the particular year)
| Year | Cash Flow (CF) | Present value factor(PV) @ 17.97% | CF * PV |
| 0 | -100 | 1.000 | -100.000 |
| 1 | 16 | 0.848 | 13.563 |
| 2 | 16 | 0.719 | 11.497 |
| 3 | 16 | 0.609 | 9.746 |
| 4 | 16 | 0.516 | 8.261 |
| 5 | 16 | 0.438 | 7.003 |
| 6 | 16 | 0.371 | 5.936 |
| 7 | 16 | 0.314 | 5.032 |
| 8 | 16 | 0.267 | 4.265 |
| 9 | 16 | 0.226 | 3.616 |
| 10 | 16 | 0.192 | 3.065 |
| NPV= | -28.018 |
The required NPV of the project = -28.018 or -28.02
Get Answers For Free
Most questions answered within 1 hours.