Question

Bruno's Lunch Counter is expanding and expects operating cash flows of $26,100 a year for 4 years as a result. This expansion requires $62,000 in new fixed assets. These assets will be worthless at the end of the project. In addition, the project requires $3,600 of net working capital throughout the life of the project. What is the net present value of this expansion project at a required rate of return of 12 percent

Answer 1

The net present value of the expansion project is $4,370.29 at a required rate of return of 12 percent.

Step-by-step explanation:

The net present value (NPV) of the expansion project can be calculated by discounting the expected cash flows using the required rate of return. In this case, the operating cash flows of $26,100 per year for 4 years, the initial investment of $62,000 in fixed assets, and the net working capital of $3,600 throughout the project's life should be taken into account.

To calculate the NPV, we first determine the present value factor for each year. Using the formula: PV factor = 1 / (1 + r)^n, where r is the required rate of return and n is the number of years. For a required rate of return of 12 percent, the present value factors are: 0.8929, 0.7972, 0.7118, and 0.6355 for years 1, 2, 3, and 4 respectively.

Next, we multiply the cash flows for each year by the corresponding present value factor and sum them up. The calculation would be: (26,100 x 0.8929) + (26,100 x 0.7972) + (26,100 x 0.7118) + (26,100 x 0.6355) - 62,000 - 3,600 = $4,370.29.

Therefore, the net present value of the expansion project at a required rate of return of 12 percent is $4,370.29.

Answer 2

Year Cash-flow DF at 12% Discounted cash flow

0 -$65,600 1.00 -$65,500

1 $26,100 0.8929 $23,303.57

2 $26,100 0.7972 $20,806.76

3 $26,100 0.7118 $18,577.46

4 $26,100 0.6355 $18,874.89

Net present value $15,962.68