Option to expand the branch:

The original project was: New Food Inc. plans to open a new a new restaurant in North Dakota. The initial costs of opening the business is $10.0 million. The firm estimates a 22% probability of high demand for the new food. In this case New Food Inc. will receive annual cash flows of $14.2 million for the next 2 years. The firm estimates a 52 probability of medium demand. In this case the company expects to receive annual cash flows of $6.4 for 2 years. There is also possible that the demand will be low and the annual cash flows will be only $1 million for 2 years.

Option to expand the project: Now the company evaluating the possibility to expand the project if the original project is successful. The company plans to invest another $10.0 million at the end of year 2 (beginning of year 3) of the project to receive the same cash flows of $14.2 million for additional 2 years (years 3 and 4) in the case of high demand or to get $6.4 million for additional 2 years (years 3 and 4) in the case of medium demand. However, if the project was not successful during the first 2 years, the company will not expand the project for additional 2 years.

The company is absolutely certain about the size of the additional investment at the end of year 2, so the management is using risk-free rate as a discount rate for the costs of the project.

Risk free rate is 4.25 percent.

The company's cost of capital is 10.88 percent.

Probability	Cash Flow Year 1 in millions	Cash Flow Year 2 in millions	Cash Flow Year 3 in millions	Cash Flow Year 4 in millions
22%	14.2	14.2	14.2	14.2
52%	6.4	6.4	6.4	6.4
Please calculate it	1	1	$0	$0

Initial outlay at time point 0 in millions	Probability	Additional Investment at the end of year Year 1 in millions	Additional Investment at the end of Year 2 in millions
	22%	$0	$10.0
$10.0	52%	$0	$10.0
	Please calculate it	$0	$0

Calculate expected NPV of the expanded project.

The correct answer should be 3.71