You work for a small, local telecommunications company. In five years, the company plans to undertake a major upgrade to its servers and other IT infrastructure. Management estimates that it will need up to $450,000 to cover all related costs; however, as a fairly young company, the goal is to pay for the upgrade with cash and not to take out loans. Right now, you have $300,000 in a bank account established for Capital Investments. This account pays 6% interest, compounded annually. A member of the finance department has approached you with an investment opportunity for the $300,000 that covers a five-year period and has the following projected after-tax cash flows:
Year Projected Cash Flow
1 $94,000
2 $114,000
3 $134,000
4 $114,000
5 $94,000
Based on this information, answer the following questions: 1) How much money will be in the bank account if you leave the $300,000 alone until you need it in five years?
2) If you undertake the investment opportunity, what is the Nominal Payback Period?
3) Using the factors for 6%, what is the Discounted Payback Period?
4) What is the Net Present Value of this investment opportunity?
5) Which option - make the investment or leave the money in a savings account - would you recommend to your CEO? Why? What additional factors/information might make you change your point of view?