Windy Burgers is trying to determine when to harvest a herd of cows that it currently owns. If it harvests the herd in year 1, the NPV of the project would increase over an immediate harvest by 25 percent. A year 2 harvest would create an NPV increase of 15 percent over that of year 1 and year 3 would create an NPV increase of 7 percent over that of year 2. If the cost of capital is 12 percent for Windy, then which harvest year would maximize the NPV for the firm? Assume that all NPVs are calculated from the perspective of today.

Question

Quizplus · Accepted Answer

To determine which harvest year will maximize the NPV for the firm, we need to calculate the NPV for each option using the cost of capital of 12 percent.

- Harvest immediately: No additional NPV is provided, so the NPV is 0. 
- Harvest in year 1: The NPV increase over an immediate harvest is 25%, which means the NPV is 0.25. 
- Harvest in year 2: The NPV increase over year 1 is 15%, which means the total NPV increase from an immediate harvest is 0.25 + (0.25 * 0.15) = 0.2875. 
- Harvest in year 3: The NPV increase over year 2 is 7%, which means the total NPV increase from an immediate harvest is 0.2875 + (0.2875 * 0.07) = 0.3077.

Therefore, harvesting in year 3 would maximize the NPV for the firm.

Windy Burgers Is Trying to Determine When to Harvest a Herd