Bundle: Fundamentals of Financial Management, 15th + MindTap Finance, 1 term (6 months) Printed Access Card
15th Edition
ISBN: 9781337817417
Author: Eugene F. Brigham, Joel F. Houston
Publisher: Cengage Learning
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Chapter 13, Problem 3P
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To discuss: The action that the Person X recommended to the AT Company.
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All American Telephones Inc. is considering the production of a new cell phone. The project will require an investment of $13 million. If the phone is well received, the project will produce cash flows of $8 million a year for 3 years, but if the market does not like the product, the cash flows will be only $1 million per year. There is a 50% probability of both good and bad market conditions. All American can delay the project a year while it conducts a test to determine whether demand will be strong or weak. The delay will not affect the dollar amounts involved for the project's investment or its cash flows-only their timing. Because of the anticipated shifts in technology, the 1-year delay means that cash flows will continue only 2 years after the initial investment is made. All American's WACC is 9%.
What's the NPV without waiting?
What's the NPV of waiting 1 year?
All American Telephones Inc. is considering the productionof a new cell phone. The project will require an investment of $13 million. If the phone iswell received, the project will produce cash flows of $8 million a year for 3 years, but ifthe market does not like the product, the cash flows will be only $2 million per year. Thereis a 50% probability of both good and bad market conditions. All American can delay theproject a year while it conducts a test to determine whether demand will be strong or weak.The delay will not affect the dollar amounts involved for the project’s investment or its cashflows—only their timing. Because of the anticipated shifts in technology, the 1-year delaymeans that cash flows will continue only 2 years after the initial investment is made. AllAmerican’s WACC is 8%. What action do you recommend?
All American Telephones Inc. is considering the production of a new cell phone. The project will require an investment of $13 million. If the phone is well received, the project will produce cash flows of $8 million a year for 3 years, but if the market does not like the product, the cash flows will be only $1 million per year. There is a 50% probability of both good and bad market conditions. All American can delay the project a year while it conducts a test to determine whether demand will be strong or weak. The delay will not affect the dollar amounts involved for the project’s investment or its cash flows—only their timing. Because of the anticipated shifts in technology, the 1-year delay means that cash flows will continue only 2 years after the initial investment is made. All American’s WACC is 10%. The data has been collected in the Microsoft Excel Online file below. Open the spreadsheet and perform the required analysis to answer the question below.
Open spreadsheet…
Chapter 13 Solutions
Bundle: Fundamentals of Financial Management, 15th + MindTap Finance, 1 term (6 months) Printed Access Card
Ch. 13 - Explain in general terms what each of the...Ch. 13 - Would a failure to recognize growth options tend...Ch. 13 - Companies often have to increase their initial...Ch. 13 - How might a firms corporate WACC be affected by...Ch. 13 - Prob. 5QCh. 13 - GROWTH OPTION Singh Development Co. is deciding...Ch. 13 - OPTIMAL CAPITAL BUDGET Marble Construction...Ch. 13 - Prob. 3PCh. 13 - ABANDONMENT OPTION The Scampini Supplies Company...Ch. 13 - OPTIMAL CAPITAL BUDGET Hampton Manufacturing...
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- All American Telephones Inc. is considering the production of a new cellphone. The project will require an investment of $13 million. If the phone is well received, the project will produce cash flows of $8 million a year for 3 years, but if the market does not like the product, the cash flows will only be $2 million per year. There is a 50% probability of both good and bad market conditions. All AMerican can delay the project a year while it conducts a test to determine whether demand will be strong or weak. The delay will not affect the dollar amounts involved project's investment or its cash flows- only their timing. Because of the anticipated shifts in technology, the 1-year delay means that cash flows will continue only 2 years after the initial investment is made. All-American's WACC is 8%. What action do you recommend?arrow_forwardInvestment Timing Option: Decision-Tree Analysis Kim Hotels is interested in developing a new hotel in Seoul. The company estimates that the hotel would require an initial investment of $15 million. Kim expects the hotel will produce positive cash flows of $2.4 million a year at the end of each of the next 20 years. The project's cost of capital is 15%. What is the project's net present value? A negative value should be entered with a negative sign. Enter your answer in millions. For example, an answer of $1.2 million should be entered as 1.2, not 1,200,000. Round your answer to two decimal places.$ millionarrow_forwardInvestment Timing Option: Option Analysis Kim Hotels is interested in developing a new hotel in Seoul. The company estimates that the hotel would require an initial investment of $20 million. Kim expects the hotel will produce positive cash flows of $3 million a year at the end of each of the next 20 years. The project's cost of capital is 13%. Kim expects the cash flows to be $3 million a year, but it recognizes that the cash flows could actually be much higher or lower, depending on whether the Korean government imposes a large hotel tax. One year from now, Kim will know whether the tax will be imposed. There is a 50% chance that the tax will be imposed, in which case the yearly cash flows will be only $2.2 million. At the same time, there is a 50% chance that the tax will not be imposed, in which case the yearly cash flows will be $3.8 million. Kim is deciding whether to proceed with the hotel today or to wait a year to find out whether the tax will be imposed. If Kim waits a year,…arrow_forward
- All American Telephones Inc. is considering the production of a new cell phone. The project will require an after-tax investment of $13 million. If the phone is well received, the project will produce after-tax cash flows of $9 million a year for 3 years, but if the market does not like the product, the after-tax cash flows will be only $1 million per year. There is a 50% probability of both good and bad market conditions. All American can delay the project a year while it conducts a test to determine whether demand will be strong or weak. The delay will not affect the dollar amounts involved for the project's after-tax investment or its after-tax cash flows-only their timing. Because of the anticipated shifts in technology, the 1-year delay means that after-tax cash flows will continue only 2 years after the initial investment is made. All American's WACC is 13%. What action do you recommend? Enter your answers in millions. For example, an answer of $10,550,000 should be entered as…arrow_forwardInvestment Timing Option: Option Analysis Activity Frame Kim Hotels is interested in developing a new hotel in Seoul. The company estimates that the hotel would require an initial investment of $20 million. Kim expects the hotel will produce positive cash flows of $3 million a year at the end of each of the next 20 years. The project's cost of capital is 13%. Kim expects the cash flows to be $3 million a year, but it recognizes that the cash flows could actually be much higher or lower, depending on whether the Korean government imposes a large hotel tax. One year from now, Kim will know whether the tax will be imposed. There is a 50% chance that the tax will be imposed, in which case the yearly cash flows will be only $2.2 million. At the same time, there is a 50% chance that the tax will not be imposed, in which case the yearly cash flows will be $3.8 million. Kim is deciding whether to proceed with the hotel today or to wait a year to find out whether the tax will be imposed. If Kim…arrow_forwardInvestment Timing Option: Decision-Tree Analysis Kim Hotels is interested in developing a new hotel in Seoul. The company estimates that the hotel would require an initial investment of $22 million. Kim expects the hotel will produce positive cash flows of $3 million a year at the end of each of the next 20 years. The project's cost of capital is 12%. a. What is the project's net present value? Do not round intermediate calculations. Enter your answer in millions. For example, an answer of $1.23 million should be entered as 1.23, not 1,230,000. Round your answer to two decimal places. $ milion b. Kim expects the cash flows to be $3 million a year, but it recognizes that the cash flows could actually be much higher or lower, depending on whether the Korean government imposes a large hotel tax. One year from now, Kim will know whether the tax will be imposed. There is a 50% chance that the tax will be imposed, in which case the yearly cash flows will be only $2.2 million. At the same…arrow_forward
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