You are planning to produce a new action figure called "Hillary".However,you are very uncertain about the demand for the product.If it is a hit,you will have net cash flows of $50 million per year for three years (starting next year,i.e.,at t = 1).If it fails,you will only have net cash flows of $10 million per year for two years (also starting next year).There is an equal chance that it will be a hit or failure (probability = 50%).You will not know whether it is a hit or a failure until after the first year's cash flows are in,i.e.,at t = 1.You have to spend $80 million immediately for equipment and the rights to produce the figure.If the discount rate is 10%,calculate Hillary's NPV.
A)-9.15
B)+13.99
C)+5.15
D)-14.4

Question

Quizplus · Accepted Answer

To calculate the expected NPV, we need to find the present value of both outcomes (success and failure) and then take the average of the two.

For the success scenario: 
PV = 50/(1+10%) + 50/(1+10%)^2 + 50/(1+10%)^3 = $114.16 million

For the failure scenario: 
PV = 10/(1+10%) + 10/(1+10%)^2 = $17.51 million

Expected NPV = (0.5 * $114.16 million) + (0.5 * $17.51 million) - $80 million = -$9.15 million

Therefore, the best choice is A, as the expected NPV is negative, indicating that the investment would not be profitable.

You Are Planning to Produce a New Action Figure Called