Health Bars is considering a two- year advertising campaign. The campaign will cost $50,000 at the end of the first year and $60,000 at the end of two years. The managers of Health Bars have estimated that the campaign will generate $40,000 a year in additional profit for the next three years. If the discount rate is 5 percent, what is the net present value of the advertising campaign?
A)$2,542
B)$6,889
C)$12,582
D)$5,200

Question

Quizplus · Accepted Answer

To calculate the net present value, we need to discount both the costs and the profits back to their present values and then subtract the costs from the profits:

NPV = PV of profits - PV of costs

PV of costs = $50,000 + $60,000 / (1.05)^2 = $103,383.17

PV of profits = $40,000 / (1.05)^1 + $40,000 / (1.05)^2 + $40,000 / (1.05)^3 = $111,272.76

NPV = $111,272.76 - $103,383.17 = $6,889.59

Therefore, the net present value of the advertising campaign is $6,889, which is positive and therefore a good investment. The best choice is (B).

Health Bars Is Considering a Two- Year Advertising Campaign