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You can invest in a risk-free technology that requires an upfront payment of $1.04 million and will provide a perpetual annual cash flow of
You can invest in a risk-free technology that requires an upfront payment of $1.04 million and will provide a perpetual annual cash flow of $75,000. Suppose all interest rates will be either 10.3% or 5.1% in one year and remain there forever. The risk-neutral probability that interest rates will drop to 5.1% is 95%. The one-year risk-free interest rate is 7.8%, and today's rate on a risk-free perpetual bond is 5.9%. The rate on an equivalent perpetual bond that is repayable at any time (the callable annuity rate) is 8.9%. a. What is the NPV of investing today? b. What is the NPV of waiting and investing tomorrow? c. Verify that the hurdle rate rule of thumb gives the correct time to invest in this case. What is the NPV of investing today?
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To calculate the NPV Net Present Value of investing today we need to discount the expected cash flows using an appropriate discount rate In this case ...Get Instant Access to Expert-Tailored Solutions
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