Reference no: EM132240892
[Group Discussion Question]
- Inflation is 2% per year.
- YourrealMARR is 10% per year.
- Year 0, the present, is the base year for the purpose of inflation calculations.
Your company is considering the two following projects:
Project 1: Put $100,000 in a savings account for 30 years. The savings account pays 15% nominal interest per year. You deposit the $100,000 in Year 0, and withdraw the deposit and accumulated interest in Year 30.
Project 2: Pay $100,000 in Year 0 for mineral rights to a small vibranium deposit in Wakanda. The deposit would yield real income of $50,000 in Year 1. Every year after that, real income would fall by 5% (g = -0.05). The last income payment would be in Year 30. After your company receives the Year 30 income payment, but still in Year 30, it will sell the mineral rights back to the Wakandan government in exchange for a one-time payment of 50,000 nominal dollars.
Use net present value to compare the two projects and decide which one is preferred. (Remember: to adjust for inflation in NPV calculations, you just need to make sure that either all rates and cash flows are nominal, or all rates and cash flows are real before you start. In the base year, nominal and real values are the same, by definition.)
What is the net present value (NPV) of Project 1? What is the net present value (NPV) of Project 2? Show your work.