An entrepreneur has a project which generates the following (sure) cash flow stream: t=1 t=2 t=3 $20 $30 $40 in million dollars. The initial investment costs (at t=0) are $40 million. In addition, the entrepreneur has to incur the following operating costs (in million dollars) to run the business in the subsequent periods: t=1 t=2 t=3 $10 $10 $10 The entrepreneur can borrow and save any amount at any date at the one period interest rate r=8% from a bank. (a) Should the entrepreneur undertake the project? (b) What is the minimum price at which the entrepreneur is willing to sell? (c) What is the maximum price the private equity firm is willing to pay?
An entrepreneur has a project which generates the following (sure) cash flow stream: t=1 t=2 t=3 $20 $30 $40 in million dollars. The initial investment costs (at t=0) are $40 million. In addition, the entrepreneur has to incur the following operating costs (in million dollars) to run the business in the subsequent periods: t=1 t=2 t=3 $10 $10 $10 The entrepreneur can borrow and save any amount at any date at the one period interest rate r=8% from a bank. (a) Should the entrepreneur undertake the project? (b) What is the minimum price at which the entrepreneur is willing to sell? (c) What is the maximum price the private equity firm is willing to pay?
Essentials Of Investments
11th Edition
ISBN:9781260013924
Author:Bodie, Zvi, Kane, Alex, MARCUS, Alan J.
Publisher:Bodie, Zvi, Kane, Alex, MARCUS, Alan J.
Chapter1: Investments: Background And Issues
Section: Chapter Questions
Problem 1PS
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Transcribed Image Text:An entrepreneur has a project which generates the following (sure) cash flow stream:
t=1
t=2
t%3
$20
$30
$40
in million dollars. The initial investment costs (at t=0) are $40 million. In addition, the
entrepreneur has to incur the following operating costs (in million dollars) to run the business in
the subsequent periods:
t3D1
t32
t=D3
$10
$10
$10
The entrepreneur can borTow and save any amount at any date at the one period interest rate
r-8% from a bank.
(a)
Should the entrepreneur undertake the project?
(b)
What is the minimum price at which the entrepreneur is willing to sell?
(c)
What is the maximum price the private equity firm is willing to pay?
Expert Solution
Introduction
Capital budgeting is a financial process of evaluating investing decisions in capital projects. This process involves the evaluation of a capital project based on the cash flows expected to be generated in the future.
The present value of a future cash flow represents its discounted value at an effective rate of interest. A higher interest rate generates lower present value of future cash flows and vice-versa.
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