9. Caledonia is considering an additional investment project with an expected life of two years and would like some insights on the level of risk this project has using the probability tree method. The initial outlay on this project would be $600,000, and the resultant possible cash flows are as follows:

a. Construct a probability tree representing the possible outcomes.

b. Determine the joint probability of each possible sequence of events taking place.

c. What is the expected IRR of this project?

d. What is the range of possible IRRs for this project?

Transcribed Image Text:

Possible Outcomes in Year 1 PROBABILITY Cash flow- Outcome 1 $300,000 Outcome 2 $350,000 2 Outcome 3 $450,000 Conditional Outcomes and Probabilities for Year 2 If ACF, = $300,000 ACF Probability If ACF, = $350,000 ACF Probability $ 200,000 .3 $ 250,000 300,000 7 450,000 650,000 253 If ACF, = $450,000 Probability ACF $ 300,000 .2 500,000 .5 700,000 .2 1,000,000 .1