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Your brother is considering opening a lollipop store on Michigan Avenue, which he is thinking of operating himself until his retirement in 15 years. The initial investment on the store assets is $20,000, which he can depreciate over 30 years using straight line to a salvage value of $0. He can expect to sell the lollipops at $1 each. Operating expenses are estimated to be 30% of the revenues. The project feasibility study, which he did last year cost $2,000. The bill is still outstanding and needs to be paid right now. The restaurant requires an immediate investment in working capital of $5,000 which he will have to maintain throughout the 15 years of the project and which will be fully recovered at the initial cost at the end of 15 years. He plans to sell the store assets for $6,000 at the end of 15 years. The corporate tax rate is 20%, and the opportunity cost of capital is 10%.
Problem 1: What should be the minimum NPV of investing in the lollipops store so that it is worthwhile for your brother to quit his job ? How does this NPV compare relative to the PV of your brother's salary?
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