Explain decision making on the basis of the net present value criterion
A firm wishes to bid on a contract that is expected to yield the following after tax net cash flows at the end of each year:
|
YEAR
|
NET CASH FLOWS
|
|
1
|
5,000
|
|
2
|
8,000
|
|
3
|
9,000
|
|
4
|
8,000
|
|
5
|
8,000
|
|
6
|
5,000
|
|
7
|
3,000
|
|
8
|
-1,500
|
To secure the contract, the firm must spend $30,000 to retool its plant. This retooling will have no salvage value at the end of the 8 years. Comparable investment alternatives are available to the firm that earns 12% compounded annually. The depreciation tax benefit from the retooling is reflected in the net cash flows in the table.
- Compute the project\'s net present value
- Should the project be adopted?
What is the meaning of the computed net present value figure?