Bermuda Co. operates clothing shops in Ireland. It is considering expanding into the mainland European market....
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Bermuda Co. operates clothing shops in Ireland. It is considering expanding into the mainland European market. Constructing a distribution centre and retail outlets in Northern France would allow it to expand easily and at a low cost into Belgium, Holland and Germany at a later stage. However, an analysis of this expansion into France indicates it would be negative NPV (-€2,500,000). If the expansion into France is successful, Bermuda proposes to decide on expansion to Belgium, Holland and Germany two years after the initial investment in France. Bermuda estimates that this further expansion would entail additional set-up costs of €15,000,000 and the forecasted present value of future cash flows from this expansion is €14,000,000, however this is a volatile market and the standard deviation associated with this forecast is 40%. The current risk free rate of return is 1.5%. There are no costs associated with delaying during the 2-year period and Bermuda cannot expand into the wider European market without first launching in the French market. Required: pron 111 Briefly outline why Discounted Cash Flow Analysis is not appropriate to value this proposed expansion by Bermuda co. Explain how the real option available to Bermuda could be valued using the Black-Scholes model and map the project characteristics onto the Black-Scholes variables. Should Bermuda launch the product in the French market, clearly explain your answer. Bermuda Co. operates clothing shops in Ireland. It is considering expanding into the mainland European market. Constructing a distribution centre and retail outlets in Northern France would allow it to expand easily and at a low cost into Belgium, Holland and Germany at a later stage. However, an analysis of this expansion into France indicates it would be negative NPV (-€2,500,000). If the expansion into France is successful, Bermuda proposes to decide on expansion to Belgium, Holland and Germany two years after the initial investment in France. Bermuda estimates that this further expansion would entail additional set-up costs of €15,000,000 and the forecasted present value of future cash flows from this expansion is €14,000,000, however this is a volatile market and the standard deviation associated with this forecast is 40%. The current risk free rate of return is 1.5%. There are no costs associated with delaying during the 2-year period and Bermuda cannot expand into the wider European market without first launching in the French market. Required: pron 111 Briefly outline why Discounted Cash Flow Analysis is not appropriate to value this proposed expansion by Bermuda co. Explain how the real option available to Bermuda could be valued using the Black-Scholes model and map the project characteristics onto the Black-Scholes variables. Should Bermuda launch the product in the French market, clearly explain your answer.
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Discounted Cash Flow DCF Analysis may not be appropriate for valuing this proposed expansion by Berm... View the full answer
Related Book For
Fundamentals of Financial Management
ISBN: 978-0324597707
12th edition
Authors: Eugene F. Brigham, Joel F. Houston
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