New Flyer Industries has decided to expand its production of hybrid transit buses.The firm expects incremental cash flows of $20 million in the first year,growing by 2% every year thereafter.The upfront cost of the expansion is $95 million,and there are additional issuance costs for external financing of $12 million.If the New Flyer's WACC is 6.2%,what is the NPV of the project?
A)$228 million
B)$357 million
C)$381 million
D)$216 million
E)$369 million

Question

Quizplus · Accepted Answer

The NPV of the project can be calculated using the formula for the present value of a growing perpetuity since the cash flows grow at a constant rate indefinitely: $ \text{PV} = \frac{C}{r - g} $, where $C$ is the initial cash flow, $r$ is the discount rate (WACC in this case), and $g$ is the growth rate of the cash flows. The initial cash flow $C$ is $20 million, $r$ is 6.2% or 0.062, and $g$ is 2% or 0.02. The NPV also needs to account for the initial investment and issuance costs, so:$$ \text{NPV} = -\text{Initial Cost} - \text{Issuance Costs} + \frac{C}{r - g} $$$$ \text{NPV} = -95 - 12 + \frac{20}{0.062 - 0.02} $$$$ \text{NPV} = -107 + \frac{20}{0.042} $$$$ \text{NPV} = -107 + 476 $$$$ \text{NPV} = $369 \text{ million} $$Therefore, the correct answer is $369 million, which corresponds to choice E.

New Flyer Industries Has Decided to Expand Its Production of Hybrid