60.1K

Verified Solution

Link Copied!

Sheila Goodman recently received her MBA from the Harvard Business School. She has joined the family business, Goodman Software Products Inc., as Vice-President of Finance. She believes in adjusting projects for risk. Her father is somewhat skeptical but agrees to go along with her. Her approach is somewhat different than the risk-adjusted discount rate approach, but achieves the same objective. She suggests that the inflows for each year of a project be adjusted downward for lack of certainty and then be discounted back at a risk-free rate. The theory is that the adjustment penalty makes the inflows the equivalent of riskless inflows, and therefore a risk-free rate is justified. A table showing the possible coefficient of variation for an inflow and the associated adjustment factor is shown next: Coefficient of Adjustment Variation Factor 0-0.25 0.90 0.26 -0.50 0.80 0.51 -0.75 0.70 0.76 1.00 8.60 1.01-1.25 0.50 Assume a $170,000 project provides the following inflows with the associated coefficients of variation for each year. Coefficient of Year Inflow Variation 1 $35,500 0.16 2 52,100 0.27 3 75,400 0.44 4 56,400 0.74 5 62,000 1.08 Use Appendix B for an approximate answer but calculate your final answer using the formula and financial calculator methods. a. Fill in the table below: (Do not round intermediate calculations. Round "Adjustment Factor" answers to 2 decimal places and other answers to the nearest whole dollar.) Year Adjustment Factor Adjusted Inflow 1 2 3 4 5 b-1. If the risk-free rate is 5 percent, compute the net present value of the adjusted inflows. (Negative amount should be indicated by a minus sign. Do not round intermediate calculations and round your answer to 2 decimal places.) Net present value b-2. Should this project be accepted? O No O Yes

Answer & Explanation Solved by verified expert

See Answer