Question
i) Your factory has been offered a contract to produce a part for a new printer. The contract would last for 3 years and your
i) Your factory has been offered a contract to produce a part for a new printer. The contract would last for 3 years and your cash flows from the contract would be $ 5.23 million per year. Your upfront setup costs to be ready to produce the part would be $ 8.19 million. Your discount rate for this contract is 7.8 %
a. What does the NPV rule say you should do? (two decimal)
b. If you take the contract, what will be the change in the value of your firm? (two decimal)
ii. You are a real estate agent thinking of placing a sign advertising your services at a local bus stop. The sign will cost $5,900 and will be posted for one year. You expect that it will generate additional revenue of $1,062 a month. What is the payback period? (one decimal)
iii. You are deciding between two mutually exclusive investment opportunities. Both require the same initial investment of $ 9.8 million Investment A will generate $ 1.93 million per year (starting at the end of the first year) in perpetuity. Investment B will generate $ 1.4 million at the end of the first year, and its revenues will grow at 2.9 % per year for every year after that.
a. Which investment has the higher IRR ? (two decimal)
b. Which investment has the higher NPV when the cost of capital is 7.8 %?
c. In this case, when does picking the higher IRR give the correct answer as to which investment is the best opportunity?
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