2. An angel investor is considering investing in one of two start-up businesses
ID: 1185081 • Letter: 2
Question
2. An angel investor is considering investing in one of two start-up businesses and is evaluating the expected returns along with the risk of each option in order to choose the better alternative. Business 1 is an innovative protein energy drink, which has ENPV of $100,000 with a standard deviation of $40,000. Business 2 is a unique chicken wings dipping sauce with an ENPV of $60,000 and a standard deviation of $25,000. a) Apply the coefficient-of-variation decision criterion to these alternatives to find out which is preferred by the angel investor, assuming that he/she is risk-averse. b) Apply the maximin criterion, assuming that the worst outcome in Business 1 is to lose $5,000, whereas the worst outcome in Business 2 is to make only $5,000 in profit. c) If you were the angel investor, what is your certainty equivalent for these two projects? Are you risk-averse, risk-neutral, or risk-lover?Explanation / Answer
1) NPV= $ 5.5 mln( 1+0.06)+ $ 5.5 mln (1+0.06)^2 = $ 10.08 mln
2 nd alternative is better since Net present value of it is more the $ 10 mln ( 10.08 >10 ) mln $
since value of money depreciate over time but in this case NPV in 2nd alternative is more hence preferred
2) when when r =0.12
NPV= $ 5.5 mln( 1+0.12)+ $ 5.5 mln (1+0.12)^2 = $ 9.29 mln
in this case NPV is less than $ 10 mln hence $ 10 mln lump sump is profitable
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