Bus 640 Week 1, Assignment 1 Essay

784 Words Jun 25th, 2013 4 Pages
1. A generous university benefactor has agreed to donate a large amount of money for student scholarships. The money can be provided in one lump-sum of $10mln, or in parts, where $5.5mln can be provided in year 1, and another $5.5mln can be provided in year 2.

a) Assuming the opportunity interest rate is 6%, what is the present value of the second alternative?
According to Douglas, "a dollar received in the present period is worth more than a dollar received in a future period" (2010, ch. 1.4). The reasoning behind this is that an amount received today can be deposited into a bank and earn interest. Therefore an amount received in a year, for example, is valued less today, and conversely, an amount received today is valued to be more
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a) Apply the coefficient-of-variation decision criterion to these alternatives to find out which is preferred by the angel investor, assuming that he/she is risk-averse.
The text defines the coefficient-of-variation decision criterion as "a statistic of a probability distribution and is calculated as the ratio of the standard deviation to the mean” (2012, ch. 2.2). In this case, the CV of Business 1 is 40,000/100,000 = 0.4 and for Business 2 the CV is 25,000/60,000 = 0.4. The CV criterion is does not take into consideration the different levels of risk that individual investors may have making it an unsuitable decision making platform when the measure of individual risk preferences is necessary. The coefficient-of-variation decision criterion would be an inferior decision-making model in this case because it does not definitively distinguish which of the two businesses is best to invest in and does not address an individual investors risk preference.

b) Apply the maximin criterion, assuming that the worst outcome in Business 1 is to lose $5,000, whereas the worst outcome in Business 2 is to make only $5,000 in profit.
The maximin decision rule, is a basic comparison of two minimum outcomes (Douglas, 2012). Under this rule the highest or best out of the worst outcomes would be the right choice. In light of this fact, Business 2 would be chosen under this rule. Making $5,000 in profit is a better

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