1. A company is deciding on whether to fund the following project. There are two

Question

1. A company is deciding on whether to fund the following project. There are two possible market outcomes: “good” or “bad” –If the market state is good, the project value is estimated to be 8,000 Million. – If the market state is bad, the project value is estimated to be 3,000 Million. The market outcome will be known at the end of the first year. The objective probability of the good market state is 0.30. The project’s initial capital investment I0 is 4,000 Million. Risk free rate is 5%. The appropriate risk-adjusted cost of capital is 25%

Explanation / Answer

Net present value = PV of cash inflows - PV of cash outflows

= ($8,000*0.30+$3,000*0.70)/(1+25%)-$4,000

= $4,500/(1+25%)-$4,000

= $3,600-$4,000

= -$400 million

Should not be accepted.

Related Questions

Navigate

• Browse (All)
• Browse 1
• Subjects

Integrity-first tutoring: explanations and feedback only — we do not complete graded work. Learn more.