An income-producing property is priced at $600,000 and is expected to generatethe following after-tax cash flows: Year 1: $42,000; Year 2: $44,000; Year 3:$45,000; Year 4: $50,000; and Year 5: $650,000. Would an investor with arequired after-tax rate of return of 15 percent be wise to invest at the current price? b. No, the NPV is -$148,867
Also, how would you calculate the IRR? Thank you for any help!
To determine if an investor with a required after-tax rate of return of 15 percent would be wise to invest in the income-producing property at the current price, we can calculate the Net Present Value (NPV) of the expected cash flows.
First, we need to calculate the after-tax cash flows. Assuming that the given cash flows are already after-tax, we can use these values directly.
Next, we will calculate the NPV using the formula:
NPV = CF1 / (1+r)^1 + CF2 / (1+r)^2 + ... + CFn / (1+r)^n - Initial Investment
where CF is the expected cash flow in each year, r is the required after-tax rate of return, n is the number of years, and the Initial Investment is the current price of $600,000.
Let's calculate the NPV for the given cash flows using the formula and the given required after-tax rate of return of 15 percent:
Year 1: $42,000 / (1+0.15)^1 = $36,521.74
Year 2: $44,000 / (1+0.15)^2 = $34,839.74
Year 3: $45,000 / (1+0.15)^3 = $31,731.34
Year 4: $50,000 / (1+0.15)^4 = $32,024.15
Year 5: $650,000 / (1+0.15)^5 = $358,899.39
NPV = $36,521.74 + $34,839.74 + $31,731.34 + $32,024.15 + $358,899.39 - $600,000
= $493,015.36 - $600,000
= -$106,984.64
The calculated NPV is -$106,984.64, not -$148,867 as stated in the question. Therefore, based on this calculation, an investor with a required after-tax rate of return of 15 percent would not be wise to invest in the income-producing property at the current price.