Accounting for Decision Making and Control 6th Edition by Jerold Zimmerman

Exercise 16

The Linda Lion Co. has an investment opportunity that involves a current outlay of $1,000 for equipment. The investment will yield net cash inflows for four years. The net cash inflow at the end of the first year will be $400. Later years' cash inflows grow at the general rate of inflation. The equipment will be depreciated to zero on a straight-line basis, and there will be no salvage value at the end of four years. The tax rate is 40 percent, and the real rate of return required on investments of this risk is 10 percent.
Required:
a. Should Linda Lion take the investment if the general rate of inflation is 5 percent
b. Is your answer different if the general rate of inflation is 15 percent Explain why or why not.