THIS IS ALL ONE QUESTION!

Part 1

You decide to start your own business. You decide that you want to start a coffee shop. And want to determine if it is a good economic decision.

For the sake of this example speculate on the following numbers:

Cost of shop = Initial Cash Flow = $XXXXXX (Maybe consider a value between $30,000 and $100,000).

Net Operating Cash Flow per year = $XXXX (Perhaps consider a number between 7,500 and $25,000 per year this number is net of all costs except the cost of your initial investment).

Terminal Cash Flow =$XXXX (Consider a number between $20,000 and $80,000).

Speculate or make up numbers for the above three categories. What numbers did you make up and briefly comment on them.

Using the values assumed and an assumption that you will receive Net Operating Cash Flows for Five years; will sell the business at the end of five years and have a cost of capital (discount rate, interest rate, WACC) associated with the project equal to 12%, answer the following questions.

What cash flows do you receive (cash inflows) and what cash flows do you pay (cash outflows)?

Part 2

How many years will it take to recover your initial investment in the coffee shop given the data above (i.e. how long in years will it take to recover or get back the Initial Cash Flow that you spent)?

Example: Suppose you said the initial CF was $25,000; Operating CF were $6,000; required rate of return was 12% and terminal CFs were $15,000. Then we would compute that we would recover $24,000 in 4 years ($6,000*4) and then we would need to recover $1000 more the 5^th year so the answer would be it would take 4 years plus 1,000/6,000 (assuming we receive the money throughout the year or 4 and 1/6 years.

Would you accept or reject the idea of the coffee shop based on this analysis, why?

Part 3

(i) What is the present value of the revenue if you discount the five operating cash flow payments by 12%? (Use the PV function and/or your financial calculator this is review)

(ii) What is the present value of the sale price you expect to receive at the end of year 5? (Use the PV function and/or your financial calculator).

Add up the PV of the operating cash flow payment stream and the sale price. (Add up your answer from parts (i) and (ii) from above).

(iii) How does the Present Value of Inflows (PVI what you calculated above)compare to the cost of the project (Present Value of Outflows)?

(iv) If you subtract the PVIs from the PVOs how much net value is created by making the investment?

(v) Would you accept or reject this project based on this analysis, why?

Example: Suppose you said the initial CF was $25,000; Operating CF were $6,000; required rate of return was 12% and terminal CFs were $15,000. Then we would compute

6000 PMT; 15000 FV; 5 N; 12 i/y; CPT PV $30140.06 This is the PVI. The PV out flows is $25,000. The difference between the two is 5,140.06. The difference is equal to the value created by taking on the project.

Part 4

Compute the rate of return (CPT i/y) earned based on the Initial investment and the receipt of payments of operating cash flow each year and an additional payment at the end of the project of the sale price? Note this is a TVM problem which is based on the material from Chapter 5.

Example: Suppose you said the initial CF was $25,000; Operating CF were $6,000; required rate of return is 12% and terminal CFs were $15,000. Then we would compute

-25000 PV; 6000 PMT; 15000 FV; 5 N; CPT I/y 0.1846 or 18.46% (answer should be accurate to 4 decimal places)

Would you accept or reject this project based on this analysis, why? APK Access Prior Knowledge Do not copy the questions into the post only your answers.

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