Question

If I invest 3 million dollars, and I believe I will have sales of 100k in the first year and after that sales will increase by 25% per year for the next 3 years. After that sales will grow at a constant 3% rate forever. Market risk premium of 4.4%. 1 year tbill yield curve of 2.6%. Beta is .52. Should I make this investment? Why or why not?

Answer 1

Capital Asset pricing model:

As per CAPM model:
Re= Rf+(Rm-Rf)B

Re= required rate of return.
Rf= Risk-free rate.
Rm =Market Risk Premium.
B = Beta, systematic risk.

Re= 2.6+(4.4-2.6)×0.52
Re= 3.536%

Net present value.
NPV = present value of cash inflow- the present value of cash outflow.

Discounted at the cost of capital/required rate of return (3.536% ).

NPV= $30,185,502.54

The company should accept the project
As NPV is positive.

(Please check if the investment amount is $3million Because the NPV is abnormally High for such an investment).

Salee year 1: year2 : 100poo CF2! (CF1) (F1x1.250 125,000 yeal 3 - CF B 3! CF 1*(1.25) 2 156,250 1 4:- CF4! CF 2 x (1.25) 195,312.5 year 5 : CF 4 x 1.03 = 201, 171.875 (CF5) present value of cash How at yeary CPU 4) = CF5 Re- 9 201, 171.875 0-0358-0-03 PV = 3 23 a 37,5 32, 066-23 present value of cash inflow = 5 CFn + PUA (1-0356 (1.034 = I CFn + 37,532,066.22 n=1 (1-03536) (1.03536). 30, 185, 502.54