Investment Timing

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Question

Digital Inc. is considering production of a new cell phone. The project would require an investment of $20 million. If the phone were well received, then the project would produce cash flows of $10 million a year for 3 years, but if the market did not like the product, the cash flows would be only $5 million per year. There is a 50 percent probability of both good and bad market conditions. Digital could delay the project for a year while it conducted a test to determine if demand would be strong or weak. The delay would not affect either the project%u2019s cost or its cash flows. Digital%u2019s WACC is 10 percent. What action would you recommend? Immediately Immediately Year 0 Year 1 Year 2 Year 3 Cash flows Cash flows NPV = Strong demand (50% probability) Strong demand (50% probability) Strong demand (50% probability) Strong demand (50% probability) Year 0 Year 1 Year 2 Year 3 Year 4 Cash flows Cash flows NPV = Weak demand (50% probability) Weak demand (50% probability) Weak demand (50% probability) Weak demand (50% probability) Year 0 Year 1 Year 2 Year 3 Year 4 Cash flows Cash flows NPV = What action do you recommend and why? What action do you recommend and why? What action do you recommend and why? What action do you recommend and why? What action do you recommend and why? Jan 18 2014 07:12 PM

 

Solution ID:609220 | This paper was updated on 26-Nov-2015

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