NPV

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runn0010

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  1. Timco airlines is a large airplane maker. It recently built the T123. It can carry 500 passengers on two levels. Initial project investments were $13B. Assume that the initial investment was paid on Dec 31, 2010. Assume that Timco will produce 60 aircraft per year for five years. Each aircraft will be sold for $230M and total operating costs are 75% of revenues. Assume that revenues and costs occur at year-end with the first revenues (and costs) occurring on Dec 31, 2011. What is the NPV of the project if Timco’s cost of capital is 11%? Calculate the NPV as of Dec 31, 2010. Ignore taxes and assume that there are no terminal year cash flows. Show your work, as appropriate and clearly state your answer (5 points)

So my question is do I calculate each years revenues if it asks to calculate for npv for dec 31, 2010

This is what I would do 60x230m=13800M is my cash flow

Then so for my first year I have (13,800M/1.11)-13B

Trying to figure out if this is all im supposed to do because it asks to calculate for dec 31 2010 or do I still do it for the five years \
How do I work in operating costs?

Need some help with this question if someone could help me or guide me to a site to get some good info I would much appreciate it as I am confused by this one.
 
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EACH year, they will have revenue of 60 * 230 million = 13800 million and expenses are 75% of that so net cash flow is what? Obviously, 25% of 13800 million = 3450 million = 3.45 billion.

How many of these 3.45 billion net cash flows will be received? Do you know a procedure or formula to calculate the present value of a series of cash flows? One or the other (probably both) should be in your text or notes. Even if they are not, present values can be added.
 
So what Im going to do is calculate the intial investment of 13billion which is an outflow for year1 then 75% of revenue for each year 13b/1+1.11+(230x60)x.75/1+1.11... ect for the outflow now I have to solve for the inflows? then subtract inflows from outflows... am I on the right rack
 
You are making this way too hard.

First, you have revenue and an expense that occur simultaneously so you can net them. This a net present value problem.

[MATH](60 * 230) - 0.75(60 * 230) = 0.25(60 * 230) = \dfrac{13800}{4} = 3450.[/MATH]
You have five of these positive cash flows, but they do not have the same present value. You cannot add them up until you make them all present values. And then you must subtract the initial cash outflow's present value to net them. The whole process is explained in the phrase "net present value": we net cash flows that occur simultaneously, we turn all net cash flows into positive and negative present values, and then net them.

[MATH]\left ( \dfrac{3450}{1.11^1} + \dfrac{3450}{1.11^2} + \dfrac{3450}{1.11^3} + \dfrac{3450}{1.11^4} + \dfrac{3450}{1.11^5} \right ) - \dfrac{13000}{1.11^0}.[/MATH]
There is a formula to compute that sum, but you will learn more from the sum because the logic behind the formula is not obvious.
 
JeffM said:
You are making this way too hard.

First, you have revenue and an expense that occur simultaneously so you can net them. This a net present value problem.

[MATH](60 * 230) - 0.75(60 * 230) = 0.25(60 * 230) = \dfrac{13800}{4} = 3450.[/MATH]
You have five of these positive cash flows, but they do not have the same present value. You cannot add them up until you make them all present values. And then you must subtract the initial cash outflow's present value to net them. The whole process is explained in the phrase "net present value": we net cash flows that occur simultaneously, we turn all net cash flows into positive and negative present values, and then net them.

[MATH]\left ( \dfrac{3450}{1.11^1} + \dfrac{3450}{1.11^2} + \dfrac{3450}{1.11^3} + \dfrac{3450}{1.11^4} + \dfrac{3450}{1.11^5} \right ) - \dfrac{13000}{1.11^0}.[/MATH]
There is a formula to compute that sum, but you will learn more from the sum because the logic behind the formula is not obvious.
Click to expand...

I
 
I was going to calculate pv inflows then outflows with the formulas provided in my text then subrtract one from the other which would give me npv is this the correct approach is all im asking now. Your formula looks different then what I Have present before me in my text.
 
It is impossible for me to explain any differences between your text and my response if you do say what is in your text.
 
So this is what I've come up with

3.45B/1.11^1+3.45/1.11^2+3.45/1.11^3+3.45B/1.11^4+3.45/1.11^5-13B=

In the formula in my text the initial investment is not discounted? What do you guys think
 
runn0010 said:
So this is what I've come up with

3.45B/1.11^1+3.45/1.11^2+3.45/1.11^3+3.45B/1.11^4+3.45/1.11^5-13B=

In the formula in my text the initial investment is not discounted? What do you guys think
Click to expand...
When you are discounting as of date D and a cash flow of C occurs on D, its present value is C. But that fits into the formula as follows

[MATH]\dfrac{C}{(1 + r)^0} = \dfrac{C}{1} = C[/MATH]
because [MATH]a \ne 0 \implies a^0 = 1.[/MATH]
 
I ended up with negative
= -.249156
so the project has - npv and should not be accpeted?
 
So are you saying I should discount my intial investment this is my formula in the book

Sum of C/1+r^i-initial investment or are my calculation correct?
 
are you sure I should discount the initial investment I keep getting a negative answer to the question but In my formula I dont divide the intial investment by the discount rate
 
runn0010 said:
are you sure I should discount the initial investment I keep getting a negative answer to the question but In my formula I dont divide the intial investment by the discount rate
Click to expand...
The answer is negative by about 249 million, and the project should not be undertaken. So your answer is correct. There is no guarantee that a present value analysis will turn out to be positive. That is why you do them.

I explained about the division by the discount rate. When you compute the present value of the project starting on the date of the initial investment, the value of the discounting factor is 1. When you divide a number by 1, what do you get?
 
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