Question

You're offered a business deal investment that requires an upfront payment of $1000 and will return $250 for five consecutive years with 6% compounded annually. Upload an excel doc or word doc showing your work in answering the following questions:

a. Calculate the Net Present Value (NPV) of the stream of cash flows - show your work
b. Considering the result NPV, is it an investment that would make money?
c. Will there be a positive gain of money if the deal was altered changing the return in year 5 to $175?

Answer 1

To determine the viability of the investment, we calculate the NPV by discounting each of the future cash flows at a rate of 6% and subtracting the initial investment. A positive NPV result indicates that the investment would make money. Altering the return in year 5 to $175 requires recalculating the NPV to consider this change.

Step-by-step explanation:

Calculating Net Present Value (NPV)

To calculate the Net Present Value (NPV), we discount each of the future cash flows back to their present value and then subtract the initial investment. The formula for the present value (PV) of a future cash flow is PV = CF / (1 + r)^n, where CF is the cash flow, r is the discount rate, and n is the period.

Using the given information:

Initial Investment: -$1000

Yearly Return: $250 for years 1 to 4 and $175 for year 5

Discount Rate: 6%

We calculate the present value for each year's return and then sum them up:

Year 1: $250 / (1 + 0.06)^1

Year 2: $250 / (1 + 0.06)^2

Year 3: $250 / (1 + 0.06)^3

Year 4: $250 / (1 + 0.06)^4

Year 5 (altered): $175 / (1 + 0.06)^5

After calculating the present values, we sum them and subtract the initial investment to find the NPV.

If the NPV is positive, it indicates a profitable investment.