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# fm13 14 - Cost Of Capital = 10 PV Of Expected CFs = \$74.61...

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Mini Case: 13 - 14 c. Tropical Sweets is considering a project that will cost \$70 million and will generate expected cash flows of \$30 per year for three years. The cost of capital for this type of project is 10 percent and the risk-free rate is 6 percent. After discussions with the marketing department, you learn that there is a 30 percent chance of high demand, with future cash flows of \$45 million per year. There is a 40 percent chance of average demand, with cash flows of \$30 million per year. If demand is low (a 30 percent chance), cash flows will be only \$15 million per year. What is the expected NPV? Answer: Initial Cost = \$70 Million Expected Cash Flows = \$30 Million Per Year For Three Years
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Unformatted text preview: Cost Of Capital = 10% PV Of Expected CFs = \$74.61 Million Expected NPV = \$74.61 - \$70 = \$4.61 Million Alternatively, one could calculate the NPV of each scenario: Demand Probability Annual Cash Flow High 30% \$45 Average 40% \$30 Low 30% \$15 Find NPV of each scenario: PV High: N=3 I=10 PV=? PMT=-45 FV=0 PV= 111.91 NPV High = \$111.91 - \$70 = \$41.91 Million. PV Average: N=3 I=10 PV=? PMT=-30 FV=0 PV= 74.61 NPV Average = \$74.61 - \$70 = \$4.71 Million. PV Low: N=3 I=10 PV=? PMT=-15 FV=0 PV= 37.30 NPV Low = \$37.30 - \$70 = -\$32.70 Million. Find Expected NPV: E(NPV)=.3(\$41.91)+.4(\$4.61)+.3(-\$32.70) E(PV)= \$4.61....
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