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Hello sir,
Hope you are fine!
Sir I am confused how the inflated sales revenue and costs figures are obtained in this section C question in Kaplan exam kit of DARN CO( Dec 13- modified)
Q: Future cash flows of an investment project are as follows:
In $000s
Year. Sales revenue. Costs
1. 1250. 500
2. 2570. 1000
3. 6890. 2500
4. 4530. 1750
The forecast cash flows are taken before taking account of general inflation of 4.7% per year. The capital cost of investment is 2 million. Darn co has nominal after tax cost of capital of 12 % per year.
Calculate NPV of the investment project in nominal terms and comment on its financial acceptability.
The inflated sales revenue and costs are given in solution as:
Year. Revenue. Costs
1. 1308.75 523.50
2. 2817.26 1096.21
3. 7907.87 2869.33
4. 5443.58 2102.93
Sir please explain me how these figures are obtained!
Thanks in advance!The actual sales revenue at time 1 will need 1 years inflation added on, and so will be 1250 x 1.047 = 1308.75
The actual sales revenue at time 2 will need 2 years inflation added on, and so will be 2,570 x (1.047^2) = 2,817.26
The actual sales revenue at time 3 will need 3 years inflation added on, and so will be 6,890 x (1.047^3) = 7,907.87
It is the same workings for all of the flows.
This is all explained in my free lectures on investment appraisal with inflation.
The lectures are a complete free course for Paper FM and cover everything needed to be able to pass the exam well.
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