Principles of Corporate Finance (Mcgraw-hill/Irwin Series in Finance, Insurance, and Real Estate)
12th Edition
ISBN: 9781259144387
Author: Richard A Brealey, Stewart C Myers, Franklin Allen
Publisher: McGraw-Hill Education
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Chapter 10, Problem 22PS
Summary Introduction
To determine: whether the $18 million investment in phase II trials positive
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Consider the basic setup of the Diamond-Dybvig (1983) model. Specifically, there are three periods, denoted t = 0, 1, 2, a single consumption good, and an illiquid investment opportunity that pays gross return 1 if liquidated at t = 1, or gross return 2.2 if liquidated at t = 2.
There are 500 people in the economy, each endowed with 1 unit of the consumption good at t = 0. At t = 1, exactly 200 will randomly realize that they need to consume at t = 1 (the early consumers), the remaining 300 people will need to consume at t = 2 (the late consumers). The utility derived from consumption is 1 − (1/c1) 2 for early consumers, 1−(1/c2) 2 for late consumers, where the subscript denotes the time of consumption.
Suppose a bank can offer an asset that is more liquid, with gross returns Rd 1 = 1.33 and Rd 2 = 1.71 (depending on the time of liquidation).
(i) Calculate the bank’s profit after t = 2. In other words, what amount of funds remains at the bank once all depositors have withdrawn? Now…
The Ulrich Corporation is trying to choose between the following two mutually exclusive design projects. If the required rate of return is 10%, which of the following statements is correct?
(a) Select A2 because it has a higher PI.(b) Select A2 because it has a higher RO R. (c) Select Al because its incremental PI exceeds 1.(d) Not enough information to decide.
The Weiland Computer Corporation is trying to choose between the following mutually exclusive design projects, P1 and P2:
Year
0
1
2
3
Cash flows (P1)
-$53,000
27,000
27,000
27,000
Cash flow (P2)
-$16,000
9,100
9,100
9,100
If the discount rate is 10 percent and the company applies the profitability index (PI) decision rule, which project should the firm accept?
If the firm applies the Net Present Value (NPV) decision rule, which project should it take?
Are your answers in (a) and (b) different? Explain why?
Chapter 10 Solutions
Principles of Corporate Finance (Mcgraw-hill/Irwin Series in Finance, Insurance, and Real Estate)
Ch. 10 - Capital budgeting process True or false? a. The...Ch. 10 - Prob. 2PSCh. 10 - Prob. 3PSCh. 10 - Project analysis True or false? a. Sensitivity...Ch. 10 - Prob. 5PSCh. 10 - Real options True or false? a. Decision trees can...Ch. 10 - Prob. 7PSCh. 10 - Prob. 9PSCh. 10 - Prob. 10PSCh. 10 - Break-even analysis Break-even calculations are...
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