Question

Ch 7

You are considering investing in a start up company. The founder asked you for $ 200,000 today and you expect to get $ 950,000 in 12 years. Given the riskiness of the investment​ opportunity, your cost of capital is 20 %. What is the NPV of the investment​ opportunity? Should you undertake the investment​ opportunity? Calculate the IRR and use it to determine the maximum deviation allowable in the cost of capital estimate to leave the decision unchanged.

What is the NPV of the investment​ opportunity? The NPV of the investment is ​$_______

Answer 1

Npv is present value of cashflows less initial investment

Initial investment is 200000

Cash flows is 950000 in 12 years

Cost of capital is 20%

P.v of cash flows is = 950000/(1.2)^12 = 106548

Npv is 106549-200000 = -93451

As Npv is negitive project shall not be accepted

Calculation of irr

IRR is rate at which npv will be 0

Let IRR rate is x

950000/(1+x)^12 = 200000

By trail and error method we get IRR is 13.865%

Until cost of capital is below 13.865% we shall not accept project

Deviation is (20-13.865) = 6.135%