Answered step by step
Verified Expert Solution
Link Copied!

Question

1 Approved Answer

Problem 13-25 Certainty equivalent approach (LO13-1) Sheila Goodman recently received her MBA from the Harvard Business School. She has joined the family business, Goodman Software

image text in transcribed
image text in transcribed
Problem 13-25 Certainty equivalent approach (LO13-1) Sheila Goodman recently received her MBA from the Harvard Business School. She has joined the family business, Goodman Software Products Inc., as Vice-President of Finance. She believes in adjusting projects for risk. Her father is somewhat skeptical but agrees to go along with her. Her approach is somewhat different than the risk-adjusted discount rate approach, but achieves the same objective. She suggests that the inflows for each year of a project be adjusted downward for lack of certainty and then be discounted back at a risk-free rate. The theory is that the adjustment penalty makes the Inflows the equivalent of riskless inflows, and therefore a risk-free rate is justified. A table showing the possible coefficient of variation for an inflow and the associated adjustment factor is shown next: Coefficient of Adjustment Variation Factor 0.90 0.26 -0.50 0.80 0.51 -0.75 1.01 - 1.25 0.50 0 -0.25 0.76 -1.00 0.70 0.60 Assume a $165,000 project provides the following inflows with the associated coefficients of variation for each year. Coefficient of Year Inflow Variation 1 $30, 600 0.14 2 56, 100 0.24 3 73,800 8.48 4 61,700 0.85 5 67,700 1.11 Use Appendix B for an approximate answer but calculate your final answer using the formula and financial calculator methods. my work a. Fill in the table below. (Do not round intermediate calculations, Round "Adjustment Factor" answers to 2 decimal places and other answers to the nearest whole dollar.) Year Adjustment Factor Adjusted Inflow 1 2 3 4 5 b-1. If the risk-free rate is 6 percent, compute the net present value of the adjusted inflows. (Negative amount should be indicated by a minus sign. Do not round intermediate calculations and round your answer to 2 decimal places.) Net present value

Step by Step Solution

There are 3 Steps involved in it

Step: 1

blur-text-image

Get Instant Access to Expert-Tailored Solutions

See step-by-step solutions with expert insights and AI powered tools for academic success

Step: 2

blur-text-image

Step: 3

blur-text-image

Ace Your Homework with AI

Get the answers you need in no time with our AI-driven, step-by-step assistance

Get Started

Recommended Textbook for

Exploring Strategic Change

Authors: Julia Balogun, Veronica Hope Hailey, Stafanie Gustafsson

4th Edition

0273778919, 9780273778912

More Books

Students also viewed these Accounting questions

Question

Understand human resource planning in an academic setting.

Answered: 1 week ago

Question

Analyze mentoring and career planning opportunities for academics.

Answered: 1 week ago