The Rodriguez Company is considering an average-risk investment in a mineral water spring project that has...

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The Rodriguez Company is considering an average-risk investmentin a mineral water spring project that has a cost of $170,000. Theproject will produce 1000 cases of mineral water per yearindefinitely starting at year 1. The year-1 sales price is $138 percase, and the current cost per case is $105. The firm is taxed at arate of 25%. Both prices and costs are expected to rise after year1 at a rate of 6% per year due to inflation. The firm uses onlyequity, and it has a cost of capital of 15%. Assume that cash flowsconsist only of after-tax profits because the spring has anindefinite life and will not be depreciated.
What is the present value of future cash flows? What is theNPV
Suppose that the company had forgotten to include futureinflation. What would they have incorrectly calculated as theproject’s NPV?

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3.7 Ratings (404 Votes)

a Year 1 sales price 138 less cost per case 105 Contribution per case 33 No of cases 1000 Total operating profit 331000 33000 less tax25 8250 Aftertax profits See Answer

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The Rodriguez Company is considering an average-risk investmentin a mineral water spring project that has a cost of $170,000. Theproject will produce 1000 cases of mineral water per yearindefinitely starting at year 1. The year-1 sales price is $138 percase, and the current cost per case is $105. The firm is taxed at arate of 25%. Both prices and costs are expected to rise after year1 at a rate of 6% per year due to inflation. The firm uses onlyequity, and it has a cost of capital of 15%. Assume that cash flowsconsist only of after-tax profits because the spring has anindefinite life and will not be depreciated.What is the present value of future cash flows? What is theNPVSuppose that the company had forgotten to include futureinflation. What would they have incorrectly calculated as theproject’s NPV?