Instead of calculating a “discounted” utility as we did in Problem 16.23, let us consider calculating U(NPV). That is, calculate NPV first, using an appropriate interest rate, and then calculate a utility value for the NPV. For your utility function, use the exponential utility function U (NPV) = 1 – e ^–NPV=5000. Use this approach to calculate the expected utility of Projects A and B in Figure 16.15. Which would you choose? Are there any problems with using this procedure for evaluating projects?

Figure 16.15

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Cash Flows Year Year 2 $10.,000 S10,000 (0.5) (0.5) S100 100 (0.5) 10.00 100 0.5) S100 S10.000