Question

Pping Het Food Services (PMFS) is evaluating a capital budgeting project that costs $75,000. The project is expected to generate atter-tax cash flows equal to $26,000 per year for four years. PHFS's required rate of return is 14 percent.

a. Compute the project's net present value (NPV). Do not round intermediste calculations. Round your answer to the nearest cent. Use a minus sign to enter a negative value. if any.
b. Compute the project's internal rate of retum (1RR). Round your answer to two decimal places.
c. Should the project be purchased? The prosect be purchased.

Answer 1

To compute the net present value (NPV) of the capital budgeting project, calculate the present value of the future cash flows minus the initial investment. For the internal rate of return (IRR), find the discount rate where the NPV equals zero. If the NPV is positive, the project should be considered for purchase.

Step-by-step explanation:

To compute the net present value (NPV), we need to calculate the present value of the future cash flows and subtract the initial investment. The NPV formula is:

NPV = -Initial Investment + PV(Cash Flow Year 1) + PV(Cash Flow Year 2) + PV(Cash Flow Year 3) + PV(Cash Flow Year 4)

Using the given information, the NPV can be calculated as follows:

NPV = -$75,000 + $26,000/(1+0.14)^1 + $26,000/(1+0.14)^2 + $26,000/(1+0.14)^3 + $26,000/(1+0.14)^4

The computed NPV rounded to the nearest cent is the answer to part a. To compute the internal rate of return (IRR), we need to find the discount rate that makes the NPV equal to zero. We can use trial and error, or use financial software or calculators to find the IRR. The IRR is the interest rate at which the NPV equals zero. The computed IRR rounded to two decimal places is the answer to part b. Finally, for part c, if the NPV is positive, it means the project should be purchased because the present value of the future cash flows is greater than the initial investment.