Asked by Alanna Davis on Jul 13, 2024
Verified
The Basalt Corporation is considering a new venture. Management has made the following cash flow estimates for the project over the next three years under assumptions reflecting best, worst, and most likely scenarios in each year.
Calculate the NPVs of the overall best, most likely, and worst case scenarios and the probability of each.
Cash Flow Estimates
Forecasts of cash inflows and outflows anticipated for a business during a particular time frame.
NPVs
Net Present Values, plural; the calculation of multiple investments' profitability by discounting future cash flows to their present values and comparing them to the initial investment.
Scenarios
In finance and planning, scenarios represent different potential future states or outcomes, used to evaluate the impact of varying conditions on projects or investments.
- Differentiate among various scenarios (optimal, least favorable, and most probable) in the assessment of projects.
- Calculate the risk-adjusted NPV of projects using appropriate discount rates and compare different project outcomes.
Verified Answer
CFo=-1,000, C01=400, C02=500, C03=600; NPV: I=12
NPV=183
Probability = .25x.25x.25=.015625
Most likely case
CFo=-1,000, C01=300, C02=400, C03=500; NPV: I=12
NPV=-57
Probability = .5x.5x.5 = .125000
Worst case
CFo=-1000, C01=200, C02=300, C03=400; NPV: I=12
NPV=-298
Probability = .25x.25x.25=.015625
Learning Objectives
- Differentiate among various scenarios (optimal, least favorable, and most probable) in the assessment of projects.
- Calculate the risk-adjusted NPV of projects using appropriate discount rates and compare different project outcomes.
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