Project A’s data is below: If there is: Expected return Probability of occurrenc

Question

Project A’s data is below:

If there is:                         Expected return        Probability of occurrence

Strong demand              20%                            .20

Normal demand             12%                            .60

Weak demand                3%                              .20

1. What is the expected return for the project?

                

2. If the required rate of return is 13%, should they proceed with the project? Why?

3. You are analyzing Project B against Project A. Project B has a range of 19, which is considered more risky A or B?

4. Does this mean Project B is automatically eliminated from consideration?

Explanation / Answer

Solution:

1. Expected Return

2.

If the required rate of return is 13 %, the firm should not be proceed with the project as the expected return of project A is 11.80 % which is less than required rate of return by 1.20 %.

3.

Project B is more risky than Project A

4.

Since, Project B is more riskier than Project A, it would eliminate the project B automatically.

Expected Return of Project A Expected Return Probability Expected Return* Probability Strong Demand 20% 0.2 4.00% Normal Demand 12% 0.6 7.20% Weak Demand 3% 0.2 0.60% Expected Return of Project A 11.80%

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