A firm is trying to determine if it should launch a product. The product has an expected life of three years. It will bring in cash flows of $10,000 in each of the three years. The company estimates that it will invest $24,000 in product research and development costs. Assume a discount rate of 8%. Based on NPV, what should the firm do?
A) Launch the product because NPV is greater than the amount to be invested
B) Not launch the product because NPV is greater than the amount to be invested
C) Launch the product because the amount to be invested is greater than NPV
D) Not launch the product because the amount to be invested is greater than NPV

Question

Quizplus · Accepted Answer

To calculate the NPV, we need to find the present value of all expected cash flows and subtract the initial investment.

PV of cash flows = $10,000 / (1+8%)^1 + $10,000 / (1+8%)^2 + $10,000 / (1+8%)^3
PV of cash flows = $8,664.47 + $8,021.98 + $7,409.05
PV of cash flows = $24,095.50

NPV = PV of cash flows - Initial investment
NPV = $24,095.50 - $24,000
NPV = $95.50

Since the NPV is positive, the project is expected to generate more cash inflow than outflow, and therefore, the company should launch the product.

A Firm Is Trying to Determine If It Should Launch