Fernhurst

The question specifically says in the section under "investment in the Milland" that the selling price and the costs are those that will occur in year 1. Year 1 flows are always assumed (unless told otherwise) to occur at the end of the year, which is time 1. Therefore no inflation applies for time 1 0 only from time 2 onwards. This is really revision of Paper FM (old Paper F9), and if you watch my free lectures on investment appraisal with inflation in the FM lectures, then you will see that I make a big point of the importance of watching out for this.

It doesn't drag behind. If the flows had been given at current prices, then the actual flows in the first year would be 4% higher. But since the question said that they were the actual flows in the first year, then the 4% is not relevant.