Answered step by step
Verified Expert Solution
Link Copied!

Question

1 Approved Answer

The following information is available about an investment opportunity. Investment will occur at year 0 and sales will occur from year 1 to year 8.

The following information is available about an investment opportunity. Investment will occur at year 0 and sales will occur from year 1 to year 8. Use a nominal discount rate, calculated as in = (1 + ir)(1 + p) 1, where ir is the real discount rate, and p is expected inflation.

Initial Costs $28 million
Unit sales 400,000
Selling price per unit, this year $60.00
Variable cost per unit, this year $42.00
Life expectancy 8 years
Salvage value $0
Depreciation Straight-line
Tax Rate 37%
Real discount rate 10%
Inflation rate 0.0%

a. Prepare a spreadsheet to estimate the projects annual after-tax cash flows.

b. Calculate the investments internal rate of return and its net present value assuming zero inflation.

c. How do the internal rate of return and net present value change when you assume an inflation rate of 8 percent per year in price and variable cost per unit?

d. How do you explain the fact that inflation causes the internal rate of return to increase and the NPV to decrease?

e. Does inflation make this investment more attractive or less attractive? Why?

Step by Step Solution

There are 3 Steps involved in it

Step: 1

blur-text-image

Get Instant Access to Expert-Tailored Solutions

See step-by-step solutions with expert insights and AI powered tools for academic success

Step: 2

blur-text-image_2

Step: 3

blur-text-image_3

Ace Your Homework with AI

Get the answers you need in no time with our AI-driven, step-by-step assistance

Get Started

Recommended Textbook for

Multinational Business Finance

Authors: David K. Eiteman, Arthur I. Stonehill, Michael H. Moffett

6th Edition

0201538997, 978-0201538991

More Books

Students also viewed these Finance questions