Asked by Kristen Morace on Sep 23, 2024
Verified
If the interest rate rises to 25% would the investment still take place?
A) Yes since NPV>0
B) No since NPV<0
C) Yes since the present value of the cash flows is greater than zero
D) No since the present value of the cash flows is lesser than zero
Interest Rate
The percentage of a loan amount charged by lenders to borrowers for the use of money, or the rate earned on deposit accounts.
Net Present Value
A method used in capital budgeting to analyze the profitability of an investment by calculating the difference between the present value of cash inflows and the present value of cash outflows over a period of time.
Present Value
The present value of a future amount of money or a series of cash flows, discounted by a certain rate of return.
- Assess investment choices in varying capital expense scenarios.
Verified Answer
CR
Charles Rayosabout 21 hours ago
Final Answer :
B
Explanation :
To determine if an investment is worthwhile, we need to calculate the net present value (NPV) of the investment. At a 12% interest rate, the NPV of the printer investment is:
NPV = -$900 + $500/(1.12) + $800/(1.12)^3
NPV = -$22.48
Since the NPV is negative, the investment should not be made.
If the interest rate were to increase to 25%, the NPV calculation would be:
NPV = -$900 + $500/(1.25) + $800/(1.25)^3
NPV = -$291.34
This NPV calculation is also negative and is a larger negative value than the prior calculation at the lower interest rate. Therefore, the investment should still not be made. The correct answer is B, No since NPV<0.
NPV = -$900 + $500/(1.12) + $800/(1.12)^3
NPV = -$22.48
Since the NPV is negative, the investment should not be made.
If the interest rate were to increase to 25%, the NPV calculation would be:
NPV = -$900 + $500/(1.25) + $800/(1.25)^3
NPV = -$291.34
This NPV calculation is also negative and is a larger negative value than the prior calculation at the lower interest rate. Therefore, the investment should still not be made. The correct answer is B, No since NPV<0.
Learning Objectives
- Assess investment choices in varying capital expense scenarios.