2. value: 50.00 points Problem 4-8 Expando, Inc., is considering the possibility
ID: 361041 • Letter: 2
Question
2.
value:
50.00 points
Problem 4-8
Expando, Inc., is considering the possibility of building an additional factory that would produce a new addition to their product line. The company is currently considering two options. The first is a small facility that it could build at a cost of $9 million. If demand for new products is low, the company expects to receive $9 million in discounted revenues (present value of future revenues) with the small facility. On the other hand, if demand is high, it expects $12 million in discounted revenues using the small facility. The second option is to build a large factory at a cost of $10 million. Were demand to be low, the company would expect $12 million in discounted revenues with the large plant. If demand is high, the company estimates that the discounted revenues would be $15 million. In either case, the probability of demand being high is 0.40, and the probability of it being low is 0.60. Not constructing a new factory would result in no additional revenue being generated because the current factories cannot produce these new products.
a. Calculate the NPV for the following: (Leave no cells blank - be certain to enter "0" wherever required. Enter your answers in millions rounded to 1 decimal place.)
b. The best decision to help Expando is
Explanation / Answer
Small Facility :
PV of inflows = $9 million x 0.60 + $12 x 0.40 = $10.2 million
NPV = $10.2 - $9 = $1.2 million
Large Facility :
PV of inflows = $12 million x 0.60 + $15 million x 0.40 = $13.2 million
NPV = $13.2 - 10 = $3.2 million
Do Nothing:
NPV = 0 - 0 = 0
Best option is build a large facility because it gives bigger revenues than other two options.
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