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Hi Sir
Please I need help with this question:A project has the following projected cash inflow s
Year 1. 100,000
Year 2. 125,000
Year 3 105,000
Working capital is required to be in place at the start of each year equal to 10% of the cash inflow for that year. The cost of capital is 10%.
What is the PV of working capital?Surely there is an answer to this in the same book in which you found the question? You should ask what problems you have with the answer, and not simply expect a complete answer!!
The working capital needed at time 0 (which is the start of the first year) will be 10% x 100,000 = 10,000.
The working capital needed at time 1 (which is the start of the second year) is 10% x 125,000 = 12,500. However the already have 10,000 and so the outflow needed at time 1 is the extra 2,500.
The working capital needed at time 2 (which is the start of the third year) is 10% x 105,000 = 10,500. However they already have 12,500 and so their is an inflow at time 2 of 2,000.If the project finishes at the end of the this year, then there will be recover of all the working capital, and therefore an inflow of 10,500.
So the working capital flows are:
0 (10,000)
1 (2,500)
2 20,000
3 10,500To get the present value you discount at 10% as normal.
Hello Prof,
In this question, it is mentioned that wcap reqd is 10% of THAT years cash inflow. Cant it be interpreted and solved as if WCap is increasing by 10000, 12500, 10500 in 0,1 and 2 resp and then $33000 is recovered in year 3?
The wordings are confusing me.
No it can’t!
The question does not say that it increases by 10% of that years sales. It says that the total needs to be 10% (which is also the most logical situation anyway).
Dear,plz go through f9 opentution notes to understand incremental effect of working capital.
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