Question

A company has $250,000 to invest. Their cost of capital is 6% compounded annually. They are...

A company has $250,000 to invest. Their cost of capital is 6% compounded annually. They are looking at two investment options and each of these options require an initial investment of $250,000: (I) A perpetuity paying $15,750 at the end of each year. (II) An investment with net cashflows of $32,500 at the end of each year for 10 years. Which of the following is a correct statement? A. You shouldn’t invest in either of these options as each of them has a negative NPV. B. Invest in I because it has the highest NPV and its NPV is greater than 0. C. Invest in ether I or II because each of them has a NPV greater than 0. D. Invest in II because it has the highest NPV and its NPV is greater than 0.

  • A.

    You shouldn’t invest in either of these options as each of them has a negative NPV.

  • B.

    Invest in I because it has the highest NPV and its NPV is greater than 0.

  • C.

    Invest in ether I or II  because each of them has a NPV greater than 0.

  • D.

    Invest in II because it has the highest NPV and its NPV is greater than 0.

Business   Finance   
0 0
Add a commentTranscribed image text
Next >

Homework Answers

Answer #1

The NPV of Investment I is computed as shown below:

= - $ 250,000 + $ 15,750 / 6%

= $ 12,500

The NPV of Investment II is computed as shown below:

= Initial investment + Annual amount x [ (1 – 1 / (1 + r)n) / r ]

= - $ 250,000 + $ 32,500 x [ (1 - 1 / (1 + 0.06)10 ) / 0.06 ]

= - $ 250,000 + $ 32,500 x 7.360087051

= - $ 10,797.17 Approximately

So, the correct answer is option B.

Feel free to ask in case of any query relating to this question      

0 0
Know the answer?
Your Answer:

Post as a guest

Your Name:

What's your source?

Earn Coins

Coins can be redeemed for fabulous gifts.

Log In

Sign Up

Not the answer you're looking for?
Ask your own homework help question
Similar Questions
A company has the option to invest in project A, project B, or neither (the projects...
A company has the option to invest in project A, project B, or neither (the projects are mutually exclusive and the company has no other investment options). Project A requires an initial investment of $100,000 today and provides cash flows of $35,000 a year for five years. The project will also return back $20,000 in capital in year six. Project B requires a $135,000 investment today and will have cash flows of $40,000 a year for 5 years. The firm’s...
Perit Industries has $100,000 to invest. The company is trying to decide between two alternative uses...
Perit Industries has $100,000 to invest. The company is trying to decide between two alternative uses of the funds. The alternatives are: Project A Project B Cost of equipment required $100,000 $0 Working capital investment required $0 $100,000 Annual cash inflows $21,000 $15,750 Salvage value of equipment in six years $8,000 $0 Life of the project 6 years 6 years The working capital needed for project B will be released at the end of six years for investment elsewhere. Perit...
The company estimates that its cost of capital is 15%. It is considering whether to invest...
The company estimates that its cost of capital is 15%. It is considering whether to invest in Shining Zambian, which has the following cash flows and will make the decision on the basis of the Net present value of the project: Estimated Cash Flows of the Project of Shining Zambian Limited Year Cash flows in (K’ Millions) 0 (100,000) 1 50,000 2 30,000 3 70,000 4 20,000   Note: Zambians abroad investments hopes to recoup its investment and payback any amounts...
Estimating the cash flow generated by $1 invested in investment The profitability index (PI)is a capital...
Estimating the cash flow generated by $1 invested in investment The profitability index (PI)is a capital budgeting tool that provides another way to compare a project’s benefits and costs. It is computed as a ratio of the discounted value of the net cash flows expected to be generated by a project over its life (the project’s expected benefits) to its net cost (NINV). A project’s PI value can be interpreted to indicate a project’s discounted return generated by each dollar...
Tulsa Company is considering investing in new bottling equipment and has two options: Option A has...
Tulsa Company is considering investing in new bottling equipment and has two options: Option A has a lower initial cost but would require a significant expenditure to rebuild the machine after four years; Option B has higher maintenance costs, but also has a higher salvage value at the end of its useful life. Tulsa’s cost of capital is 11 percent. The following estimates of the cash flows were developed by Tulsa’s controller:   A B Initial Investment 320,000 454,000 Annual Cash...
A firm with a cost of capital of 10% is evaluating two independent projects utilizing the...
A firm with a cost of capital of 10% is evaluating two independent projects utilizing the internal rate of return technique. Project X has an initial investment of $70,000 and cash inflows at the end of each of the next five years of $25,000. Project Z has an initial investment of $120,000 and cash inflows at the end of each of the next four years of $35,000. The firm should ________. accept Project X and reject project Z accept both...
The profitability index (PI) is a capital budgeting tool that is defined as the present value...
The profitability index (PI) is a capital budgeting tool that is defined as the present value of a project’s cash inflows divided by the absolute value of its initial cash outflow. Consider this case: Free Spirit Industries Inc. is considering investing $2,500,000 in a project that is expected to generate the following net cash flows: Year Cash Flow Year 1 $325,000 Year 2 $425,000 Year 3 $450,000 Year 4 $425,000 Free Spirit Industries Inc. uses a WACC of 7% when...
Perit Industries has $130,000 to invest. The company is trying to decide between two alternative uses...
Perit Industries has $130,000 to invest. The company is trying to decide between two alternative uses of the funds. The alternatives are: Project A Project B Cost of equipment required $ 130,000 $ 0 Working capital investment required $ 0 $ 130,000 Annual cash inflows $ 21,000 $ 65,000 Salvage value of equipment in six years $ 8,100 $ 0 Life of the project 6 years 6 years The working capital needed for project B will be released at the...
Brislin Company has four operating divisions. During the first quarter of 2017, the company reported aggregate...
Brislin Company has four operating divisions. During the first quarter of 2017, the company reported aggregate income from operations of $218,700 and the following divisional results. Division I II III IV Sales $250,000 $198,000 $499,000 $447,000 Cost of goods sold 195,000 194,000 298,000 250,000 Selling and administrative expenses 70,300 62,000 57,000 49,000 Income (loss) from operations $ (15,300) $ (58,000) $144,000 $148,000 Analysis reveals the following percentages of variable costs in each division. I II III IV Cost of goods...
Perit Industries has $210,000 to invest. The company is trying to decide between two alternative uses...
Perit Industries has $210,000 to invest. The company is trying to decide between two alternative uses of the funds. The alternatives are: Project A Project B Cost of equipment required $ 210,000 $ 0 Working capital investment required $ 0 $ 210,000 Annual cash inflows $ 30,000 $ 52,000 Salvage value of equipment in six years $ 9,100 $ 0 Life of the project 6 years 6 years The working capital needed for project B will be released at the...
ADVERTISEMENT
Need Online Homework Help?

Get Answers For Free
Most questions answered within 1 hours.

Ask a Question
ADVERTISEMENT