NPV

CFA Level I
#1

Suppose that an investment advisor offers you to invest your hard earned money in a project that has the following cash flows (the subscript denotes the time index corresponding to years from today so that subscript 2, for example, denotes the point in time two years from now).

C1=200, C2= -250, C3= 300

What is the maximum price that you should be willing to pay for this project knowing that for an alternative project of the same risk you could expect an annual return of 10%?

NPV of an investment equals 200 and something. So should I use then the formula for present value: PV=FT*(1+r)3 (FT= 200 and something) in order to get how much should I invest in this project?

#2

NPV = 200/1.1 - 250/(1.1)2 + 300/(1.1)3

=200.60

N.B. FV = PV * (1+i)n. You had PV and FV mixed up.

#3

I’ve done that, I’ve calculated the NPV, and it equals to 200,60.

But how should I then calculate how much money should I invest in this project regarding the 10% revenue from an alternative option?

#4

I think you are misunderstanding the question. The ‘10%’ referred to in the problem is the discount rate you should apply to the relevant cash flows, which you have done to get $200.60. The ‘alternate option’ here simply refers to the opportunity cost of other investments.

#5

I get it now, thank you very much!