Scenario Analysis Shao Industries is considering a proposed project for its capi

Question

Scenario Analysis

Shao Industries is considering a proposed project for its capital budget. The company estimates the project's NPV is $12 million. This estimate assumes that the economy and market conditions will be average over the next few years. The company's CFO, however, forecasts there is only a 50% chance that the economy will be average. Recognizing this uncertainty, she has also performed the following scenario analysis:

What is the project's expected NPV, its standard deviation, and its coefficient of variation? Enter your answers for the NPV and standard deviation in millions. For example, an answer of $1.2 million should be entered as 1.2, not 1,200,000. Round your answers to two decimal places.

Economic
Scenario Probability of
Outcome
NPV Recession 0.05 -$66 million     Below average 0.20 -10 million     Average 0.50 12 million     Above average 0.20 18 million     Boom 0.05 26 million    

Explanation / Answer

Economic scenario Probability of outcome NPV million expected NPV u (x-u)^2 Recession 0.05 -66 -3.3 79.21 Below average 0.2 -10 -2 57.76 Average 0.5 12 6 0.16 Above average 0.2 18 3.6 4 Boom 0.05 26 1.3 18.49 expected NPV x 5.6 159.62 cv 159.62/5.6 28.50

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