Question

The Butler-Perkins Company (BPC) must decide between two mutually exclusive projects. Each costs $6,750 and has an expected life of 3 years. Annual project cash flows begin 1 year after the initial investment and are subject to the following probability distributions: Project A Project B Probability Cash Flows Probability Cash Flows 0.2 $6,000 0.2 $0 0.6 $6,750 0.6 $6,750 0.2 $7,500 0.2 $19,000 BPC has decided to evaluate the riskier project at 11% and the less-risky project at 10%.

1. What is each project's expected annual cash flow? Round your answers to two decimal places.

   Project A: $ ?

   Project B: $ ?

   Project B's standard deviation (σ_B) is $6,157.52 and its coefficient of variation (CV_B) is 0.78. What are the values of (σ_A) and (CV_A)? Round your answers to two decimal places.

   σ_A = $ ?

   CV_A = ?

2. Based on the risk-adjusted NPVs, which project should BPC choose?

   _________ options: Project A or Project B

3. If you knew that Project B's cash flows were negatively correlated with the firm's other cash flow, but Project A's cash flows were positively correlated, how might this affect the decision?

   _________ options: This would make Project B more appealing or This would make Project B less appealing.

   If Project B's cash flows were negatively correlated with gross domestic product (GDP), while A's cash flows were positively correlated, would that influence your risk assessment?

   _________ options: This would make Project B more appealing or This would make Project B less appealing.

Answer 1

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