Question

Suppose an initial investment of $100 will return $50/year for 3 years (assume the $50 is received each year at the end of the year). Is this a profitable investment if the discount rate is 20%?

Answer 1

With a positive NPV, it shows that the investment is profitable.

It is a profitable investment with a positive NPV at a discount rate of 20%.

Data and Calculations

Initial investment = $100

Annual cash inflows = $50

Period of investment = 3 years

Discount rate = 20%

What is the present value?

Present value (PV) is the current value of a future sum of money or stream of cash flows given a specified rate of return.

Present Value (PV) annuity factor for 3 years at 20% = 2.106

Present value of annual cash inflows = $105.3 ($50 x 2.106)

Net Present Value (NPV) = $5.3 ($105.3 - $100)

Thus, with a positive NPV, it shows that the investment is profitable.

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