Question

Dowling Sportswear is considering building a new factory to produce aluminum baseball bats. This project would require an initial cash outlay of $8,000,000 and would generate annual net cash inflows of $2,000,000 per year for 6 years. Calculate the projects NPV (and PI) using each of the following discount rates:

a. 9%
b. 11%
c. 13%
d. 15%

Answer 1

NPV calculations involve discounting future cash flows to their present value using different discount rates and subtracting the project's initial cost, while the PI is determined by dividing the present value of inflows by the initial cost.

Step-by-step explanation:

The student is tasked with calculating the Net Present Value (NPV) and Profitability Index (PI) for a new factory project proposed by Dowling Sportswear, that requires an initial investment with a series of annual net cash inflows. The calculation requires applying different discount rates to determine the present value of future cash flows. Since the question provides specific discount rates, NPV calculations must be performed separately for each rate (9%, 11%, 13%, 15%) to understand the value of the project's cash flows in today's dollars.

For each rate, the NPV is found by discounting the annual net cash inflows of $2,000,000 over the 6-year period and then subtracting the initial outlay of $8,000,000. The Profitability Index (PI) is calculated by taking the Present Value (PV) of those cash inflows and dividing it by the initial investment. This helps determine the value created per dollar invested.

It is important to note that in real-world scenarios, expected profits and the appropriate discount rate are often based on best guesses rather than fixed data, adding a layer of complexity to such financial calculations.