Question

A restaurant is for sale for $200,000. It is estimated that the restaurant will earn $20,000 a year for the next 15 years. At the end of 15 years, it is estimated that the restaurant will sell for $350,000. Which of the following would be MOST LIKELY to occur if the investors required rate of return is 15 percent?
a. Investor would pursue the project
b. Investor would not pursue the project
c. Investor would pursue the project if the holding period were longer than 15 years
d. Not enough information provided

Answer 1

Answer:

B

Explanation:

to determine of the investor would pursue the project, we need to determine the value of the net present value

Net present value is the present value of after-tax cash flows from an investment less the amount invested.  

NPV can be calculated using a financial calculator  

Only projects with a positive NPV should be accepted. A project with a negative NPV should not be chosen because it isn't profitable.  

When choosing between positive NPV projects, choose the project with the highest NPV first because it is the most profitable.

Cash flow in year 0 = $-200,000

Cash flow in year 1 - 14 = 20,000

Cash flow in year 15 = 20,000 + $350,000

I = 15%

NPV = -40,039.53

The npv is negative and the project should not be undertaken

To find the NPV using a financial calculator:

1. Input the cash flow values by pressing the CF button. After inputting the value, press enter and the arrow facing a downward direction.

2. after inputting all the cash flows, press the NPV button, input the value for I, press enter and the arrow facing a downward direction.  

3. Press compute  

-40,039.53