7 Certainty Equivalents. The management of Illusions Ltd has developed the following range of certainty equivalent factors for the project’s cash flows:

Year t Net Cash Flow £ Certainty equivalent coefficient (αt)

0 (235,000) 1.0 1 40,000 1.0 2 40,000 0.9 3 40,000 0.9 4 40,000 0.8 5 40,000 0.8 6 40,000 0.7 7 40,000 0.6 8 40,000 0.5 9 40,000 0.4 10 40,000 0.4 11 5,000 0.3 Given that the firm’s cost of capital is 10 per cent and the risk-free rate has been determined at 6 per cent you are required to:

(a) calculate the certainty equivalent NPV;

(b) advise management on the project’s acceptability.