Question
The scientists at Vegetron have come up with an electric mop and the firm is ready to go ahead with pilot production and test marketing.
The scientists at Vegetron have come up with an electric mop and the firm is ready to go ahead with pilot production and test marketing. The preliminary phase will take a year and cost $150,000 at time = 0. Management feels that there is only 60% chance that the pilot production and market tests will be successful. If pilot production and test marketing are successful, then Vegetron will build a big plant at a cost of $2 million at time =1. The plant will start generating after-tax cash flows at time = 2. However, the cash flows will depend on demand conditions. If the demand is high, then it will produce cash flows of $600,000 per year for 5 years. If the demand is low, it will produce $400,000 per year for 5 years. The probability that the demand will be high is 60% and that it will be low is 40%. If pilot production and test marketing are not successful, then Vegetron will build a small plant at a cost of $1,000,000 time =1. The plant will start generating after-tax cash flows at time = 2. However, the cash flows will depend on demand conditions. If the demand is high, then it will produce cash flows of $350,000 per year for 5 years. If the demand is low, it will produce $215,000 per year for 5 years. The probability that the demand will be high is 60% and that it will be low is 40%. The appropriate discount rate is 10 percent for this project. Construct a decision tree and determine the project's expected NPV, the standard deviation, and its coefficient of variation. (6 points)
Step by Step Solution
There are 3 Steps involved in it
Step: 1
Get Instant Access to Expert-Tailored Solutions
See step-by-step solutions with expert insights and AI powered tools for academic success
Step: 2
Step: 3
Ace Your Homework with AI
Get the answers you need in no time with our AI-driven, step-by-step assistance
Get Started