Question
There is a project requiring an initial investment of $60 million. Depending on the level of demand next year, annual cash flows for three years
There is a project requiring an initial investment of $60 million. Depending on the level of demand next year, annual cash flows for three years will change: high demand (probability of 30%) will generate an annual cash flow of $40 million. Normal demand (probability of 40%) will generate an annual cash flow of $30 million. Weak demand (probability of 30%) will generate an annual cash flow of $10 million. Here we assume cost of capital (WACC) is 9% and risk free rate is 6%. Using this information, please solve the following 4 questions.
What is your expected NPV (net present value)?
If we wait for one year, we will get additional information about a demand. If a demand is low, we do not need to start the project above (cash flows = 0). If we wait for one year, upfront cost and cash flows are the same but will be shifted ahead by one year. Please estimate new NPV if a low demand is confirmed (after waiting for one year).?
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