Question

You are the owner of a small hardware store, and you are considering opening a gardening store in a vacant area in the back of your present store. You estimate that it will cost you $50,000 to set up the new store, and that you will generate

$10,000 in after-tax cash flows from the store for the life of the store (which is expected to be ten years). The one concern you have is that you have limited parking; by opening the gardening store you run the risk of not having enough parking for customers who shop at your hardware store. You estimate that the lost sales from such occurrence would amount to $3,000 a year, before tax, and that your after-tax operating margin on sales at the hardware store is 40 percent (i.e. the net after-tax gain from $3000 is only 40% of that amount). If your discount rate (cost of capital) is 14 percent, would you open the gardening store?

Select one:

a. No enough information

b. Yes

c. No

Answer 1

We see that the NPV of gardening store=-50000+(10000-1200)/14%*(1-1/1.14^10)
=-4098.18

As NPV is negative, do not open the gardeing store

No