1.Consider the following capital budgeting problem: you invest $100 in a machine and expect to receive $33 in each of the next three years. The discount rate is 10%.

Suppose you decide to invest in the machine. What would you be willing to sell the machine for the day after you bought it for $100?

2.Your firm has an opportunity to invest in a project that costs $800 and you expect it to return two payments of $500 per year. The interest rate of the project is 10%. The current NPV of the project is $67.77.

You also have the option to wait one year to invest $800. If you wait, you will know more and can revise your expectations such that you either expect to return two payments of $750 with a probability of 0.2 or, alternatively, two payments of $300 (the probability of this is equal to 1 minus the probability of the first result). The interest rate of the project is still 10%.

What is the current present value of the NPV, if they choose to wait?

3.You are considering a project that offers up the following possible payout with an opportunity cost of 20%.

Time 0 1 2

Base Case -$60,000 10,000 10,000

At the end of year two, you know there is a 10% possibility you will buy out your competitor which has the potential to create opportunities that are worth $993,229 at that time.

How much potential value is created or lost by taking on this project (i.e. what is the NPV)?

4.You are considering a project with an opportunity cost of 10% and that offers up the following two possible payouts based on your ability to market the product:

In the optimistic state, you expect the following payouts: -$4,073, $8,000, $8,000. Based on your pessimistic expectations, you expect the following -$4,073, -$500, -$10,000. The cash flows fall at time periods 0, 1, and 2.

Your sense is that there is a 40% chance things will turn out well and a 60% chance things will turn out poorly. What is your expected NPV if you are able to abandon the project after year one?

5.Your firm has an opportunity to invest in a project that costs $512 and will return two payments of $500 per year. If the interest rate is 10%, what is the current NPV of this project?