Question

Suppose Lumbering Ox Truckmakers is evaluating a proposed capital budgeting project (project Alpha) that will require an initial investment of $550,000. The project is expected to generate the following net cash flows: Year Year 1 Year 2 Year 3 Cash Flow $375,000 $425,000 $500,000 Year 4 $400,000 The company'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)? $1,252,519 $852,519 $1,277,519 $1,227,519 O Making the accept or reject decision Lumbering Ox Truckmakers's decision to accept or reject project Alpha is independent of its decisions on other projects. If the firm follows the NPV method, it should project Alpha.

Answer 1

Net present value can be calculated using a financial calculator by inputting the below:

• •   Press the CF button.
• •   CF0= -$550,000. Indicate the initial cash flow by a negative sign since it is a cash outflow.
• •   Cash flow for each year should be entered.
• •   Press Enter and down arrow after inputting each cash flow.
• •   After entering the last cash flow cash flow, press the NPV button and enter the weighted average cost of capital of 8%.
• •   Press enter after that. Press the down arrow and CPT buttons to get the net present value.

The net present value is $852,519.28.

Hence, the answer is option b.

If the firm follows the NPV method, it should accept Project Alpha since it generates a positive net present value.

When a project has a NPV of $0, the project is earning a rate of return less than the project’s weighted average cost of capital. It is OK to accept the project, as long as the project’s profit is positive.

Hence, the answer is option b.

In case of any query, kindly comment on the solution.