Question

Consider a ten-year project that costs $40,000 today, which is expected to generate $5,000 at the end of the second year and then the cash flows will increase by $1,500 every year for the following three years and then stagnate for the rest of the project life. The cost of capital is 7 percent. What is the project’s NPV? What is the discounted payback period?

Answer 1

The project's NPV is $1,651.52 and the discounted payback period is 3.8 years.

Step-by-step explanation:

The net present value (NPV) of a project is the present value of its cash flows, discounted at the project's cost of capital. To calculate the NPV, we first need to determine the present value of each cash flow, and then sum them up.

In this case, the project costs $40,000 today and is expected to generate $5,000 at the end of the second year, with cash flows increasing by $1,500 every year for the following three years. After that, the cash flows stagnate for the rest of the project's life.

Using a discount rate of 7 percent, we can calculate the present value of each cash flow and find that the project's NPV is $1,651.52.

The discounted payback period is the amount of time it takes for the present value of the cash flows to equal or exceed the initial investment. In this case, the discounted payback period is 3.8 years.