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PROBLEM 5 Allied Managed Care Company is evaluating two different computer systems for handling provider claims. There are no incremental revenues attached to the projects,
PROBLEM 5 | ||||||||
Allied Managed Care Company is evaluating two different computer systems for handling provider claims. | ||||||||
There are no incremental revenues attached to the projects, so the decision will be made on the basis of | ||||||||
the present value of costs. Allied's corporate cost of capital is 10 percent. Here are the net cash flow | ||||||||
estimates in thousands of dollars: | ||||||||
Year | System X | System Y | ||||||
0 | -$500 | -$1,000 | ||||||
1 | -$500 | -$300 | ||||||
2 | -$500 | -$300 | ||||||
3 | -$500 | -$300 | ||||||
a. Assume initially that the systems both have average risk. Which one should be chosen? | ||||||||
b. Assume that System X is judged to have high risk. Allied accounts for differential risk by adjusting its | ||||||||
corporate cost of capital up or down by 2 percentage points. Which system should be chosen? | ||||||||
ANSWER | ||||||||
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