You are analyzing a project with a 30 year lifetime, with the following characteristics (16 marks) The project will require an initial investment of $20 million and additional investments of $ 5 million in year 10 and $ 5 million in year 20 The project will generate earnings before interest and taxes of $3 million each year (The tax rate is 40 ) The depreciation will amount to $500,000 each year, and the salvage value of the equipment will be equal to the remaining book value at the end of year 30 The cost of capital is 12 5 a Estimate the net present value of this project b Estimate the internal rate of return on this project What might be some of the problems in estimating the IRR for this project ii) Accounting rates of return are based upon accounting income and book value of investment, whereas internal rates of return are based upon cash flows and take into account the time value of money Under what conditions will the two approaches give you similar estimates (9 marks)

The Answer is in the image, click to view ...

Answered step by step

Verified Expert Solution

Link Copied!

Question

1 Approved Answer

Posted on Oct 06, 2024

You are analyzing a project with a 30-year lifetime, with the following characteristics: (16 marks) The project will require an initial investment of $20 million

You are analyzing a project with a 30-year lifetime, with the following characteristics: (16 marks)

The project will require an initial investment of $20 million and additional investments of $ 5 million in year 10 and $ 5 million in year 20.
The project will generate earnings before interest and taxes of $3 million each year. (The tax rate is 40 %.)
The depreciation will amount to $500,000 each year, and the salvage value of the equipment will be equal to the remaining book value at the end of year 30.
The cost of capital is 12.5%.

a. Estimate the net present value of this project.

b. Estimate the internal rate of return on this project. What might be some of the problems in estimating the IRR for this project?

ii) Accounting rates of return are based upon accounting income and book value of investment, whereas internal rates of return are based upon cash flows and take into account the time value of money. Under what conditions will the two approaches give you similar estimates? (9 marks)