Question

Assume the following:

You buy some equipment today for $100 to produce and sell balloons.

you invest $25 in working capital today to support your sales efforts.

The business produces after tax cash flow of $30 per year for 5 years. All cash flows occur on the last day of the year.

You close the business at the end of 5 years and sell the equipment for $50 (it had been depreciated to $20; your tax rate is 33.33%)

You liquidate the working capital at the end of the first year as well.

Assume a 10% discount rate

Is this a good project? What is the present value of all of the combined cash flows?

Question 8 options:

A)	No. negative $10

B)

Yes. $25

C)

yes. $14

D)

yes. $29

E)

Yes. $35

A capital expenditure is anything defined by management as significant while an operating expense is deemed to be more minor.

Question 11 options:

	True
	False

Answer 1

Initial investment = 100 + 25

Operating cash flows form year 1 to 5 = 30

Non operating cash flow at year 5 = 50 + 25 - 0.3333 ( 50 - 20)

Non operating cash flow at year 5 = 6

Present value of cash flows = 30 / ( 1 + 0.1)¹ + 30 / ( 1 + 0.1)² + 30 / ( 1 + 0.1)³ + 30 / ( 1 + 0.1)⁴ + 30 / ( 1 + 0.1)⁵ + 65 / ( 1 + 0.1)⁵

Present value of cash flows = 113.724 + 40.36

Present value of cash flows = 154.09

NPV = present value of cash flows - initial investment

NPV = 154.09 - 125

NPV = 29

Since it is a positive NPV, YES 29

2)

TRUE

Capital expenditure require a huge cash outflow as compared to operating expenses.