Question

John wiggins is considering the purchase of a small restaurant. the purchase price listed by the seller is $800,000. john has used past financial information to estimate that the net cash flows (cash inflows less cash outflows) generated by the restaurant would be as follows:

Answer 1

Answer:

Since NPV is negative (-$73,835.60), the project should be rejected.

Explanation:

                                      Years                       Amount

                                         0                        -$800,000

                                       1–6                          $80,000

                                         7                            $70,000

                                         8                           $60,000

                                         9                           $50,000

                                        10                         $740,000

In order to determine if this is a good investment or not, we need to calculate the net present value (NPV). If NPV  ≥ 0, then the project is good, it NPV is negative, then the project should be rejected.

I will use an excel spreadsheet to calculate the NPV with a 10% discount rate.

We must first determine the present value of the cash flows and then subtract the investment from it.

The present value of the cash flows = $726,164.60 and obviously its smaller than the initial investment: $726,164.60 - $800,000 = -$73,835.60

Since NPV is negative, the project should be rejected.