A project with a 3-year life has the following probability distributions for pos

Question

A project with a 3-year life has the following probability distributions for possible end of year cash flows in each of the next three years: Year 1 Prob then Cash Flow 0.30 $300 0.4 $500 0.3 $700. Year 2 0.15 $100 0.35 $200 0.35 $600 0.15 $900. Year 3 0.25 $200 0.75 $800. Using an interest rate of 8 percent, find the expected present value of these uncertain cash flows. (Hint: Find the expected cash flow in each year, then evaluate those cash flows.) a. $1,204.95 b. $835.42 c. $1,519.21 d. $1,580.00 e. $1,347.61

Explanation / Answer

Calculation of expected cash flow in each year Year 1 Year 2 Year 3 Probability Cash flow Expected Cash flow Probability Cash flow Expected Cash flow Probability Cash flow Expected Cash flow 0.3 $300.00 $90.00 0.15 $100.00 $15.00 0.25 $200.00 $50.00 0.4 $500.00 $200.00 0.35 $200.00 $70.00 0.75 $800.00 $600.00 0.3 $700.00 $210.00 0.35 $600.00 $210.00 0.15 $900.00 $135.00 Expected Cash flow $500.00 $430.00 $650.00 Calculation of expected present value of uncertain cash flows. Year Expected Cash flow Discount Factor @ 8% Present Value 1 $500.00         0.92593 $462.96 2 $430.00         0.85734 $368.66 3 $650.00         0.79383 $515.99 Expected Present Value $1,347.61 The asnwer is Option e.

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