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2. You are planning to buy a new information system. It requires an initial investment of $10,000 and will generate cost savings of $5,000 in year 1, $6,000 in year 2, and $3,000 in year 3. The salvage value after 3 years is zero. The cost of capital is 25% a year. a) Compute the net present value (NPV) of the project. Should you invest? NPV = -10,000 + 5,000/1.25 + 6,000/1.252 + 3,000/1.258 = ($624) You should not invest because the NPV is negative. year 1 year 2 b) Compute the payback period. Because the future cash flows differ across years, we determine the payback period based on cumulative cash flows net cash flow cumulative cash flow $5,000 year 1 only = $5,000 $6,000 years 1 and 2 = $11,000 year 3 $3,000 years 1, 2, and 3 = $14,000 The initial outlay of $10,000 is recouped sometime between the end of year 1 and the end of year 2. Therefore, payback period = "between 1 and 2 years