Inflation in project analysis

It is often easy to overlook the impact of inflation on the net present value of the project. Not incorporating the impact of inflation in determining the

value of the cash flows of the project can result in erroneous estimations.

Consider the following scenario:

Extensive Enterprise Inc. is considering opening a new division to produce units that it expects to sell at a price of $$14,950$ each in the

first year of the project. The company expects the cost of producing each unit to be $$5,750$ in the first year; however, it expects the

selling price and cost per unit to increase by $1\%$ each year.

Based on the preceding information, the company expects the selling price in the fourth year of the project to be

$,$ and it expects the

cost per unit in the fourth year of the project to be

Which of the following statements about inflation's effect on net present value $($NPV$)$ is correct?

When the selling price and cost per unit are expected to increase at the same rate, forgetting to take in $$15,100$ account in a capital

budgeting analysis will typically cause the estimated NPV to be lower than the true NPV$.$

When the selling price and cost per unit are expected to increase at the same rate, you do not need to take infiation into account when

performing a capital budgeting analysis.