Question

V & T Faces, Inc., would like to open a retail store in Miami. The initial investment to purchase the building is $420,000, and an additional $50,000 in working capital is required. Since this store will be operating for many years, the working capital will not be returned in the near future.

V & T Faces expects to remodel the store at the end of 3 years at a cost of $100,000. Annual net cash receipts from daily operations (cash receipts minus cash payments) are expected to be as follows:

Year 1	$80,000
Year 2	$115,000
Year 3	$118,000
Year 4	$140,000
Year 5	$155,000
Year 6	$167,000
Year 7	$175,000

The company’s required rate of return is 13 percent. Assume management decided to limit the analysis to 7 years.

1. Find the net present value of this investment.
2. Use trial and error to approximate the internal rate of return for this investment proposal.
3. Based on your answer to requirements a and b, should V & T Faces, Inc., open the new store? Explain.
4. Calculate the payback period (include working capital in the initial investment). Assuming management requires all investments to be recovered within three years, should V & T Faces, Inc., open the new store?
5. What is the weakness of using the payback period method to evaluate long-term investments?
6. Assume the manager of the company wanted to live in Miami and intentionally inflated the projected annual cash receipts so that the proposal would be accepted. The proposal would otherwise have been rejected. Explain how the company’s use of a post audit would help to prevent this type of unethical behavior.

Answer 1

IF YOU HAVE ANY DOUBTS COMMENT BELOW I WILL BE TTHERE TO HELP YOU..ALL THE BEST..

AS FOR GIVEN DATA..

V & T Faces, Inc., would like to open a retail store in Miami. The initial investment to purchase the building is $420,000, and an additional $50,000 in working capital is required. Since this store will be operating for many years, the working capital will not be returned in the near future.

V & T Faces expects to remodel the store at the end of 3 years at a cost of $100,000. Annual net cash receipts from daily operations (cash receipts minus cash payments) are expected to be as follows:

Year 1	$80,000
Year 2	$115,000
Year 3	$118,000
Year 4	$140,000
Year 5	$155,000
Year 6	$167,000
Year 7	$175,000

The company’s required rate of return is 13 percent. Assume management decided to limit the analysis to 7 years.

EXPLANATION ::-

1) Find the net present value of this investment.

SOL ::-

Net Present Value=$27930.9 i.e approx= $ 27,931( see Note1)

Note 1: Calculation of NPV

(a) Initial Investment:

Purchase of Bulkinng      $ 4,20,000

Working Capita l$50,000

Total$ 4,70,000

(b )Statement of cash flows

Particulars	Year 0	Year 1	year 2	Year 3	Year 4	Year 5	Year 6	Year 7
Initial Invest	(470000)	0	0	0	0	0	0	0
Remodeling Cost				(100000)
Net Cash Receipts		80000	115000	118000	140000	155000	167000	175000
Cash Flows	(470000)	80000	115000	18000	140000	155000	167000	175000
PV Factor@13%	1	0.8850	0.7831	0.6931	0.6133	0.5428	0.4803	0.4251
Present Value	(470000)	70800	90056.5	12475.8	85862	84134	80210.1	74392.5

NET PRESENT VALUE=Present value of inflows-Present value of outflows

=$ 4,97,930.9-$4,70,000= $ 27,930.9

2) Use trial and error to approximate the internal rate of return for this investment proposal.

SOL ::-

Internal Rate of Return for this project:

At R1=13% present value of inflows=$ 497931(NPV=27931)

At R2=20% present value of inflows=$ 391518

IRR=R1+{NPV1*(R2-R1)}/PV 1-PV2

IRR=13%+(27931*7)/106413= 14.83%

3) Based on your answer to requirements a and b, should V & T Faces, Inc., open the new store? Explain.

SOL ::-

As per NPV , the project should be accepted as it has a positive NPV

As per IRR , since the IRR is greater than the required rate of return, the project should be accepte

4) Calculate the payback period (include working capital in the initial investment). Assuming management requires all investments to be recovered within three years, should V & T Faces, Inc., open the new store   

SOL ::-

Payback period of the project:=4.75 years(or 4 years & 9 months)(Note below)

Since management requires all investments to be recovered within 3 years, this store should not be opened as this project has a longer payback period.

The initial investment=$ 470000

Time period required to recover= (80000(yr1)+115000(yr2)+18000(yr3)+140000(yr4)+155000(yr5)

=4+117000/155000=4.75 years

I HOPE YOU UNDERSTAND..

PLS RATE THUMBS UP..ITS HELPS ME ALOT..

THANK YOU...!!