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Hi,
In the March 2020 Past Paper could you please explain how were the answers derived for the following questions?a(ii) couldn’t figure out at all
a(iii) Why wasn’t the 3.26 Mn multiplied by 70%, even though they have clearly stated that only 70% of the applications have been approved?
Would greatly appreciate it if you could help.
Thank you so much!For a(ii) the finance director thinks that there is a 20% chance of a recession in which case the PV’s will be 40% lower. Therefore there is an 80% chance that there will not be a recession in which case the PV’s will stay as in paper a(i).
The total of the PV’s in a(i) for years 2 to 5 is 17.74, and so if no recession they will stay at 17.74. If there is a recession then they will be 40% lower and will therefore be 60% x 17.74 = 10.64.
Given that the probabilities are 0.8 (no recession) and 0.2 (is recession) the expected PV is:
(0.8 x 17.74) + (0.2 x 10.64) = 16.32The initial investment remains at 10.72 and therefore the expected NPV is 16.32 – 10.72 = 5.6
For a(iii):
Although the wording of the question could have been a bit better, the original investment and the alternative investment are both subject to regulatory approval and so the 70% is irrelevant when comparing them.
It is only relevant for part a(iv) when considering selling to Gepe.
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