A decision tree shows a 30 percent probability of $2 million in returns and a 70 percent chance of $1 million in returns.What is the maximum you would invest today in this project if the cash in-flow occurs one year in the future and the discount rate is 10 percent?
A)$818,182
B)$1,181,818
C)$1,300,000
D)$1,363,636 NPV = - investment
0 = - investment

Question

Quizplus · Accepted Answer

Using the formula for calculating present value of future cash flows, we get:
PV = (0.3 x 2,000,000)/ (1 + 0.1) + (0.7 x 1,000,000)/(1 + 0.1) = $1,181,818.18 
Therefore, the maximum investment that would give a positive net present value (NPV) would be $1,181,818.18. Any investment above this amount would result in a negative NPV. Therefore, the best choice is option B.

A Decision Tree Shows a 30 Percent Probability of $2