A contract is estimated to yield 48 quarterly net returns of $3000 beginning three months from now. To secure the contract, outlays of $40,000 now and $35,000 two years from now are required. What is the contract's net present value to a business whose cost of capital is 12% compounded quarterly?

Question

Quizplus · Accepted Answer

The correct answer is D.The net present value (NPV) of the contract is the sum of the present values of the net returns minus the present values of the outlays. The present value of a future cash flow is the amount that must be invested today at the given cost of capital to yield the future cash flow.The present value of the net returns is:PV(net returns) = $3000 * (1 - (1 + 0.12/4)^-48) / (0.12/4) = $81,708.00The present value of the outlays is:PV(outlays) = $40,000 + $35,000 * (1 + 0.12/4)^-8 = $65,867.20The net present value of the contract is:NPV = PV(net returns) - PV(outlays) = $81,708.00 - $65,867.20 = $15,840.80

A Contract Is Estimated to Yield 48 Quarterly Net Returns