Question

If you insulate your office for $29,000, you will save $2,900 a year in heating expenses. These savings will last forever. a. What is the NPV of the investment when the cost of capital is 5%? 10%? b. What is the IRR of the investment? (Enter your answer as a whole percent.) c. What is the payback period on this investment?

Answer 1

The NPV of insulating the office is $58,000 at a 5% cost of capital and $29,000 at 10%. The IRR is 10%. The payback period for the insulation investment is 10 years.

Step-by-step explanation:

When insulating your office for $29,000 with an annual savings of $2,900 in heating expenses, we approach the financial analysis with several methods:

NPV Calculation

The Net Present Value (NPV) can be found using the formula NPV = Savings per year / Cost of capital. With a cost of capital at 5%, the NPV is calculated as $2,900 / 0.05 = $58,000. At a 10% cost of capital, it's $2,900 / 0.10 = $29,000.

IRR Calculation

The Internal Rate of Return (IRR) is the discount rate that makes the NPV of the project zero. In this case, since the annual saving equals the initial investment over 10 years, the IRR is 10%.

Payback Period

The payback period is the time it takes for the savings to cover the initial cost. Here, it's calculated as $29,000 / $2,900 = 10 years.