Question

The You Look Marvelous! cosmetic company is considering building a new shampoo factory. Its accountants and board of directors meet and decide that it is not a good idea to build the factory. If interest rates fall after the meeting

a.the present value of the factory rises. It’s more likely the company will build the factory.
b.the present value of the factory rises. It’s less likely the company will build the factory.
c.the present value of the factory falls. It’s more likely the company will build the factory.
d.the present value of the factory falls. It’s less likely the company will build the factory.

Answer 1

A

Step-by-step explanation:

The present value of cash inflows or of the factory project depends inversely on the interest rates; if interest rates fall, present value will rise. The formula attached shows the mathematical relationship but intuitively if the interest rate falls then the cost of money over the time decreases, then when you convert cash inflows into monetary units of today, you will discount less and net cash inflows will rise .In this case, cash inflows of the factory, converted into monetary units of today, will increase and the company will perceive better earnings if they decide to build the shampoo factory. Because of that it is more likely that the company will build the factory.