Shields Electric forecasts the following nominal cash flows on a particular project: The nominal discount rate is

Question:

Shields Electric forecasts the following nominal cash flows on a particular project: Cash Flow 0 - $1,000 1 $600 2 $650

The nominal discount rate is 14 percent, and the inflation rate is forecast to be 5 percent. What is the value of the project? Using Nominal Quantities The NPV can be calculated as: $600 $650 1.14 1.142 + $26.47 $1,000 + =

The project should be accepted. The real cash flows are: Cash Flow 0 - $1,000 1 $571.43 $600 1.05 = 2 $589.57 $650 1.05 =

According to Equation 6.6, the real discount rate is 8.57143 percent ( = 1.14 / 1.05 − 1 ) . The NPV can be calculated as: $26.47 = $1,000 + - $571.43 1.0857143 + $589.57 1.0857143