The Net Present Value Analysis: A Study Guide

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Part I: A. The present value of my future bank account is: 15,000 / (1+.07) = $14,019. If the rate is only 4%, then the present value of my future bank account is 15,000 / (1.04) = $14,423. B. The present value of Account A is 6500 / 1.06 = $6132.08. The present value of Account B is 12,600 / (1.06)^2 = $11,213.96. C. The net present value of the gold mine is as follows: Year 0 1 2 3 Cash Flow  49 61 85 PV 45.79439 53.27976 69.38532 NPV 168.4595 D 7% This is based on the NPV formula, which according to Investopedia (2012) is: INCLUDEPICTURE "http://i.investopedia.com/inv/dictionary/terms/NPV.gif" * MERGEFORMATINET If the rate was 5%, the NPV would be $175.42 and if the rate was 3%, the NPV would be $182.86. From these computations, we can conclude that the higher the discount rate, the more the future cash flow will be worth today. This is because the future cash flows are not subject to as strong inflation if the discount rate is lower. It is also reasonable to conclude from this example that if all other factors remain the same, the value of an investment can still be interpreted in a number of different ways depending on the choice of a discount rate. It is critical, therefore, that companies choose their discount rates wisely in order that they have the most accurate NPV calculations possible. Part II: A. The NPV for this project would be, with the following discount rates: 2% $614.35 6% $514.82 11% $408.99 0%

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