The Rodriguez Company is considering an average-risk investment in a mineral water spring project that has an

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The Rodriguez Company is considering an average-risk investment in a mineral water spring project that has an initial after-tax cost of $170,000. The project will produce 1,000 cases of mineral water per year indefinitely, starting at Year 1. The Year-1 sales price will be $138 per case, and the Year-1 cost per case will be $105. The firm is taxed at a rate of 25%. Both prices and costs are expected to rise after Year 1 at a rate of 6% per year due to inflation. The firm uses only equity, and it has a cost of capital of 15%.

Assume that cash flows consist only of after-tax profits because the spring has an indefinite life and will not be depreciated.

a. What is the present value of future cash flows?

b. Suppose that the company had forgotten to include future inflation. What would they have incorrectly calculated as the project’s NPV?

Cost Of Capital
Cost of capital refers to the opportunity cost of making a specific investment . Cost of capital (COC) is the rate of return that a firm must earn on its project investments to maintain its market value and attract funds. COC is the required rate of...
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Corporate Finance A Focused Approach

ISBN: 978-1337909747

7th edition

Authors: Michael C. Ehrhardt, Eugene F. Brigham

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