Question

Evaluating cash flows with the NPV method The net present value (NPV) rule is considered one of the most common and preferred criteria that generally lead to good investment decisions. Consider this case: Suppose Celestial Crane Cosmetics is evaluating a proposed capital budgeting project (project Alpha) that will require an initial investment of $400,000. The project is expected to generate the following net cash flows: Year Cash Flow Year 1 Year 2 $375,000 $425,000 $500,000 Year 3 Year 4 $400,000 Celestial Crane Cosmetics's weighted average cost of capital is 8%, and project Alpha has the same risk as the firm's average project. Based on the cash flows, what is project Alpha's net present value (NPV)? O $1,402,519 $1,377,519 $602,519 $1,002,519

Answer 1

Answer:

NPV = Sum of present value of cash flows - -Initial Investment

First of all, we will calculate present value of cash flows:

PV = Cash flow / (1+r)ⁿ

Where r is cost of capital or dicounted factor and n is number of years.

Calculation of Present value of Cash flows-

Year	Cash flow	Calculation	PV of Cash flow
1	375000	375000/(1.08)1	347222.22
2	425000	425000/(1+.08)2	364368.99
3	500000	500000/(1.08)3	396916.12
4	400000	400000/(1.08)4	294011.94
Total			1402519.27

NPV = 1402519 - 400000

NPV = $1002519

It should accept project Alpha.

Reason- Beacuse NPV is position.

Option "2" is correct. When a project has an NPV of $0, the project is earning rate of return equal to the project's weighted average cost of capital, because project is earning the require minimum rate of return.