Question

You are thinking of building a factory. The plant will cost € 100,000 and can be used for two years. The factory construction will increase your profits by € 55000 at the end of the first year and by € 60000 at the end of the second year. After the factory it will have no value. What is the net present value of the plant if the interest rate is 10%. Would you be willing to build the factory?

Answer 1

Initial Cost = 100,000

Increase in profit – First year = 55,000

                             Second year = 60,000

The factory had no salvage value.

Interest Rate = 10%

Calculate the NPV.

NPV = -100,000 + 55,000 (P/F, 10%, 1) + 60,000 (P/F, 10%, 2)

NPV = -100,000 + 55,000 (0.90909) + 60,000 (P/F, 10%, 2)

NPV = -413

The NPV of the plant is -413.

Would you be willing to build the factory?

No. As the NPV is negative (NPV < 0), the project should be rejected.