Question

The Real Option Inc. is considering a new project. It believes that each year it would be able to sell 15 units at a $300,000 per-unit after-tax profit (i.e., per-unit operating cash flow) for the next five years. A $14.8 million initial investment will be required at the beginning of the project. The appropriate discount rate is 16 percent.

Required:
Calculate the base-case NPV of this project.

Answer 1

NPV = $10.708 million

Step-by-step explanation:

The base case NPV is that calculated by discounting the after-tax cash flow by the cost of equity based on asset beta. The base-case NPV does not consider the financing effect of the any particular finance source used to fund the project.

NPV = PV of cash inflow - Initial outlay

After-tax cash flow = 300,000×15= 4.5 million

PV of cash inflow = cash inflow × A × (1- (1+r)^(-n)/r

4.5 ×( 1- (1.16^-5)/0.16= 25.508 million

NPV = PV of cash inflow - Initial outlay

NPV = 25.508 million - 14.8 million

NPV = $10.708 million