Question

Growth Enterprises believes its latest project, which will cost $95,000 to install, will generate a perpetual growing stream of cash flows. Cash flow at the end of the first year will be $8,000, and cash flows in future years are expected to grow indefinitely at an annual rate of 5%.
(a) If the discount rate for this project is 10%, what is the project NPV? (Do not round intermediate calculations.)
(b) What is the project IRR? (Do not round intermediate calculations. Round your answer to 2 decimal places.)

Answer 1

Answer:

a. $65,000

b. 13.40

Explanation:

a. Present value of cash flow = Cash flow ÷ (Discount rate - Growth rate)

= $8,000 ÷ (0.10 - 0.05)

= $8,000 ÷ 0.05

= $160,000

So, Net present value = present value of cash inflow - cash outflow

= $160,000 - $95,000

= $65,000

b. Value of investment = cash flows ÷ (internal rate of return - growth rate)

= $95,000 = $8,000 ((internal rate of return - 5%)

= Internal rate of return - 0.05 = $8,000 ÷  $95,000

= 0.084 + 0.05

= 13.40