icrosoft is considering selling a new smartphone. Microsoft's CEO expects to sell 0.5 Million phones per year for a net cash flow of $150per phonefor the next 15 years. This new project requires an initial investment of $600 Million. Microsoft's appropriate discount rate is 8%. (Hint: Assume that all cash flows occur at the end of the year. You can ignore taxes.)

a) What is the NPV of the project? [10 marks]Show your work.

For parts (b) to (d) assume the following: After the first year of sales, Microsoft will find out if consumer demand for the new phone is high or low. If demand is high, Microsoft will be able to sell 0.75 Million phones per year for the rest of the project. If demand is low, the number of sales per year will go down to 0.2 Million phones per year for the rest of the project. Microsoft's market research shows that the probability of high demand is 50% while the probability of low demand is 50%.

b) What is today's NPV of the project in this case? [10 marks]Show your work.

c) Assume now that Microsoft can to shut down the project after year 1 if consumer demand for the phone is low. If Microsoft shuts down the project they will recover $400 Million at the end of year 1 by selling off unnecessary equipment. What is the NPV of the project with this option? [10 marks]Show your work.

d) What is the value of the option to shut down the smartphone project? [5 marks]Show your work.

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