ch8 - Chapter 8: Risk Analysis, Real Options, and Capital...

Info iconThis preview shows pages 1–5. Sign up to view the full content.

View Full Document Right Arrow Icon
Chapter 8: Risk Analysis, Real Options, and Capital Budgeting 8.1 Calculate the NPV of the expected payoff for the option of going directly to market. NPV(Go Directly) = C Success (Prob. of Success) + C Failure (Prob. of Failure) = $20,000,000 (0.50) + $5,000,000 (0.50) = $12,500,000 The expected payoff of going directly to market is $12,500,000. The test marketing requires a $2 million cash outlay. Choosing the test marketing option will also delay the launch of the product by one year. Thus, the expected payoff is delayed by one year and must be discounted back to year 0. NPV(Test Market) = -C 0 + [C Success (Prob. of Success)] / (1+r) T + [C Failure (Prob. of Failure)] / (1+r) T = -$2,000,000 + [$20,000,000 (0.75)] / (1.15) + [$5,000,000 (0.25)] / (1.15) = $12,130,434.78 The expected payoff of test marketing the product is $12,130,434.78. Sony should go directly to market with the product since that option has the highest expected payoff. 8.2 Calculate the NPV of each option. The manager should pursue the option with the highest NPV. NPV(Go Directly) = C Success (Prob. of Success) = $1,200,000 (0.50) = $600,000 The NPV of going directly to market is $600,000. NPV(Focus Group) = C 0 + C Success (Prob. of Success) = -$120,000 + $1,200,000 (0.70) = $720,000 The NPV when conducting a focus group is $720,000. NPV(Consulting Firm) = C 0 + C Success (Prob. of Success) = -$400,000 + $1,200,000 (0.90) = $680,000 The NPV when hiring a consulting firm is $680,000. The firm should conduct a focus group since that option has the highest NPV. B-162
Background image of page 1

Info iconThis preview has intentionally blurred sections. Sign up to view the full version.

View Full DocumentRight Arrow Icon
8.3 Recommend the strategy that has the highest NPV. NPV(Lower Prices) = C Success (Prob. of Success) + C Failure (Prob. of Failure) = -$1,300,000 (0.55) - $1,850,000 (0.45) = -$1,547,500 NPV(Lobbyist) = C 0 + C Success (Prob. of Success) + C Failure (Prob. of Failure) = -$800,000 - $0 (0.75) - $2,000,000 (0.25) = -$1,300,000 The CFO should hire the lobbyist since that option has the highest NPV. 8.4 Since the NPV of Research is greater than that of no research, based on expected outcomes, B&B should go directly to market. Research No Research $18.0435 million at t = 0 $17.85 million at t = 0 $30 million at t = 1 (26.087 million at t = 0) $30 million at t = 0 $3 million at t = 1 (2.6087 million at t = 0) Failure Success Failure Success Start $3 million at t = 0 Note: Research = –1 million investment + 0.7 * (26.087) if successful + 0.3 * (2.6087) if unsuccessful No Research = 0.55 * (30) if successful + 0.45 * (3) if unsuccessful B-163
Background image of page 2
8.5 Carl should have taken the $5,000. Expected return for 1% of movie profits is $3,000. Since only good scripts are made into movies and only a good movie would make a profit: (10% x 30% x $10 mil x 1%) Movie studio decision tree: Movie is good Profit = $10 million Small Audience Big Audience Movie is bad Make Movie Script is good Read script 30% 10% No profit 70% No Profit Script is bad Don’t make movie 90% No profit B-16 4
Background image of page 3

Info iconThis preview has intentionally blurred sections. Sign up to view the full version.

View Full DocumentRight Arrow Icon
8.6 Apply the accounting profit break-even point (BEP) formula and solve for the sales price,
Background image of page 4
Image of page 5
This is the end of the preview. Sign up to access the rest of the document.

Page1 / 14

ch8 - Chapter 8: Risk Analysis, Real Options, and Capital...

This preview shows document pages 1 - 5. Sign up to view the full document.

View Full Document Right Arrow Icon
Ask a homework question - tutors are online