a . What is the net present value ( NPV ) of the investment under the current required rate of return ? b . What is the net present value ( NPV ) of the investment under a period of rising inflation ? c . What is the net present value ( NPV ) of the investment under a period of falling inflation ? d . From your answers in a , b , and c , what relationship do you see emerge between changes in inflation and asset valuation ?
P12 – 17 Real options and the strategic NPV Jenny Rene , the CFO of Asor Products , Inc ., has just completed an evaluation of a proposed capital expenditure for equipment that would expand the firm ’ s manufacturing capacity . Using the traditional NPV methodology , she found the project unacceptable because LG 6 NPVtraditional = − $ 1,700 < $ 0 Before recommending rejection of the proposed project , she has decided to assess whether there might be real options embedded in the firm ’ s cash flows . Her evaluation uncovered three options : Option 1 : Abandonment . The project could be abandoned at the end of 3 years , resulting in an addition to NPV of $ 1,200 . Option 2 : Growth . If the projected outcomes occurred , an opportunity to expand the firm ’ s product offerings further would become available at the end of 4 years . Exercise of this option is estimated to add $ 3,000 to the project ’ s NPV . Option 3 : Timing . Certain phases of the proposed project could be delayed if market and competitive conditions caused the firm ’ s forecast revenues to develop more slowly than planned . Such a delay in implementation at that point has an NPV of $ 10,000 . Jenny estimated that there was a 25 % chance that the abandonment option would need to be exercised , a 30 % chance that the growth option would be exercised , and only a 10 % chance that the implementation of certain phases of the project would affect timing .
a . Use the information provided to calculate the strategic NPV , NPVstrategic , for Asor Products ’ proposed equipment expenditure .