Question

Odeletta Corporation is considering an investment of $518,000 in a land development project. The investment will yield cash inflows of $220,000 per year for five years. The company uses a discount rate of 9%.
What is the net present value of the investment?

Present value of an ordinary annuity of $1:8%9%10%10.9260.9170.90921.7831.7591.73632.5772.5312.48743.3123.243.1753.9933.893.791

A. $341,88

B. $238,280


C. $220,00

D. $337,800

Answer 1

Answer:

D) The net present value (NPV) of the investment= $337,800

Explanation:

Net Present Value (NPV) : This is  one of the techniques available to evaluate the feasibility of an investment project. The NPV of a project is the difference between the present value of the cash inflows  and the cash outflows of the project. NPV is superior to other techniques for the reasons below:

• It considers the time value of money  i.e it uses present values.
• It uses relevant cash flows rather than profit figures
• it is consistent with the shareholders' wealth maximization principle.

The Present Value (PV)of a future cash flow is the amount that needs to be invested today at a particular rate of return to equal the same cash flow in the future. Present value means the value in year 0 or now

Some times, the cash inflows from a project could be an equal amount occurring periodically, this is called an annuity. An annuity is a series of equal annual payments or receipts made for a certain number of years.  Tom calculate the PV of annuity we use this formula:

PV = A × (1 - ((1+r)^(-n))/n)

where- PV- Present value, A- annual cash flow, n- number of years

In this question, the cash inflow is a five-year annuity.

We now calculate the NPV;

Net Present Value (NPV) = PV of cash inflows - Initial cost

Remember that the inflow is an annuity, so we first calculate the PV of the annuity using this formula and then subtarct from the initial cost:

PV = A × (1 - ((1+r)^(-n))/n)

PV of annuity inflow = 220,000 × ((1-(1 +0.09)^(-5))/0.09)

                                     220,000 ×   3.890

                                 =   855,800

NPV = 855,800 - 518,000

        = 337,800

What is the net present value (NPV) of the investment= $337,800