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An investment project has a cost of $12,000, payable at the start of the first year of operation. The possible future cash flows arising from the investment project have the following present values and associated probabilities:
PV of Year 1 Cash Flow ($)
16,000 (probability ~ 0.15)
12,000 (probability ~ 0.60)
(4,000) (probability ~ 0.25)PV of year 2 cash flow ($)
20,000 (probability ~ 0.75)
(2,000) (probability ~ 0.25)What is the expected value of the net present value of the investment project?
Answer is 11,100.
Im not getting this figure, getting around 14,000.
What is the cost of capital? your answer will depend on the cost of capital applied.
Thats the Issue as well. They haven’t given any cost of capital. That is the only information provided by the examiner. Mr Moffat please help us ? .
KOFI44: Please don’t answer in this forum – it is Ask the Tutor, and you are not the tutor. (But please do help people in the other F9 forum).
mracca11: You do not need to know the cost of capital, because the figures given have already been discounted – they are the present values.
The expected PV of the year 1 flows is: (0.15 x 16,000) + (0.60 x 12,000) – (0.25 x 4,000) = 8,600.
The expected PV of the year 2 flows is: (0.75 x 20,000) – (0.25 x 2,000) = 14,500.Therefore the expected NPV is 8,600 + 14,500 – 12,000 = 11,100.
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