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A project has the following expected cash flows:

Time 0 = -125,000
Time 1 = 100,000
Time 2 = 200,000

If the risk free interest rate is 4%, expected inflation is 3%, the market risk premium is 8% and the beta for the project is 1%, the investment's net present value (NPV) is closest to:

A) $113,000
B) $124,000
C) $139,000

If you add the Risk-Free + Expected Inflation to get the nominal rate of 15.12, before calculating using CAPM, you will get I of 12.15% and you get answer A.

BUT,

If you don't add the Risk-Free to Expected Inflation and just use the 4% risk-free rate, and you calculate the cost, you will get 12% and get answer B.

Why the difference?