Rearden Metal needs to order a new blast furnace that will be delivered in one year. The $1,000,000 price for the blast furnace is due in one year when the new furnace is installed. The blast furnace manufacturer offers Rearden Metal a discount of $60,000 if they pay for the furnace now. If the interest rate is 7%, then the NPV of paying for the furnace now is closest to:
($5,421)
($6,729)
$6,729
$5,421
Solution:
Calculation of Present Value of the Cost of furnace to be paid after one year:
= Cost to be paid after one year / (1 + Rate of Interest)
= $1,000,000 / 1.07 = $934,579.44
Calculation of the Net Cost of purchasing the furnace today = $1,000,000 - $60,000 = $940,000
It would be cheaper for the company to pay $1,000,000 after one year instead of paying $940,000 today.
Therefore, Net Present Value of paying early will be negative
= $934,579.44 - $940,000 = ($5,420.56)
Therefore, Correct Option is ($5,421)
Rearden Metal needs to order a new blast furnace that will be delivered in one year....