Question

Your storage firm has been offered $98,500 in one year to store some goods for one year. Assume your costs are $96,800, payable immediately, and the cost of capital is 8.1%. Should you take the contract? The NPV will be $ (Round to the nearest cent.)

Answer 1

The NPV of accepting the storage contract is -$4,589.29, which means it would result in a loss considering the cost of capital. Thus, the firm should not accept the contract.

Step-by-step explanation:

The student is asking whether to accept a storage contract with a future payment of $98,500 against an immediate cost of $96,800, taking into account an 8.1% cost of capital. To make this decision, we need to calculate the Net Present Value (NPV) of the contract. NPV is the difference between the present value of cash inflows and the present value of cash outflows over a period of time.

To find the NPV, we discount the future revenue of $98,500 back to its present value using the formula: Present Value = Future Value / (1 + r)^n, where 'r' is the discount rate (8.1% in this case), and 'n' is the number of periods (1 year). The calculation gives us: $98,500 / (1 + 0.081)^1 = $91,210.71 as the present value of the future revenue. Subtracting the immediate cost of $96,800, we get NPV = $91,210.71 - $96,800 = -$4,589.29.

The negative NPV suggests that accepting the contract would result in a loss, considering the cost of capital; therefore, it would not be financially beneficial for the firm to take the contract.