(Forecasting cash flows using the expected value) Rao Roofing of

Stillwater,

Oklahoma, is considering the acquisition of Simpkins Storage Company. Rao's management team has analyzed the annual cash flows for Simpkins and come up with these estimates for the three states of the economy shown here:

LOADING...

.

A rival firm, Michell Storage Company is also considering a bid for Simpkins and their estimated cash flow for Simpkins in each potential state of theb economy are the same as those of Rao. However, Mitchell's management is much more optimistic about the economy. They estimate the probability of a recession next year at only

1010

percent, the probability of a normal state of the economy at

7575

percent, and the probability of expansion at

1515

percent.

a. Based on Rao's estimated probabilities for each state of the economy, what should be their estimate of expected cash flows for Simpkins?

b. What should be Mitchell's estimate of the expected cash flow for Simpkins' year one cash flow?

c. Which company do you think will ultimately be willing to pay the highest price for Simpkins, all else being equal other than their outlook for the economy?

2

parts remaining

Clear All

Check Answer

Data Table

	Scenario I: Recession	Scenario II: Normal	Scenario III: Expansion
Probability	15%	80%	5%
Cash flow for each scenario	$( 48 comma 000 )(48,000)	$152 comma 000152,000	$253 comma 000253,000