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ne NPV of go ərket..(Do nc ID

ne NPV of go ərket..(Do nc ID

Essentials Of Investments
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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**Problem 9-6 Decision Trees** Ang Electronics, Inc., has developed a new HD DVD. If the HD DVD is successful, the present value of the payoff (at the time the product is brought to market) is $34.2 million. If the HD DVD fails, the present value of the payoff is $12.2 million. If the product goes directly to market, there is a 40 percent chance of success. Alternatively, the company can delay the launch by one year and spend $1.32 million to test-market the HD DVD. Test-marketing would allow the firm to improve the product and increase the probability of success to 70 percent. The appropriate discount rate is 12 percent. Calculate the NPV of going directly to market and the NPV of test-marketing before going to market. (Do not round intermediate calculations and enter your answers in dollars, not millions of dollars, rounded to nearest whole dollar amount, e.g., 1,234,567.) | | | |---------------------|---------------------| | Go to market now | | | Test-marketing first| | **Should the firm conduct test-marketing?** - ( ) Yes - ( ) No **Explanation:** The problem presented is a decision tree analysis scenario for Ang Electronics, Inc. The company's options include: 1. **Going directly to market:** This option has a 40% chance of success with a payoff of $34.2 million and a 60% chance of failure with a payoff of $12.2 million. 2. **Conducting test-marketing:** This option costs $1.32 million and increases the chance of success to 70%. The exercise requires calculating the Net Present Value (NPV) for both strategies using a discount rate of 12% to determine which option is more financially viable. Please complete the calculations and answer if the firm should conduct test-marketing based on the NPVs obtained.
Transcribed Image Text:**Problem 9-6 Decision Trees** Ang Electronics, Inc., has developed a new HD DVD. If the HD DVD is successful, the present value of the payoff (at the time the product is brought to market) is $34.2 million. If the HD DVD fails, the present value of the payoff is $12.2 million. If the product goes directly to market, there is a 40 percent chance of success. Alternatively, the company can delay the launch by one year and spend $1.32 million to test-market the HD DVD. Test-marketing would allow the firm to improve the product and increase the probability of success to 70 percent. The appropriate discount rate is 12 percent. Calculate the NPV of going directly to market and the NPV of test-marketing before going to market. (Do not round intermediate calculations and enter your answers in dollars, not millions of dollars, rounded to nearest whole dollar amount, e.g., 1,234,567.) | | | |---------------------|---------------------| | Go to market now | | | Test-marketing first| | **Should the firm conduct test-marketing?** - ( ) Yes - ( ) No **Explanation:** The problem presented is a decision tree analysis scenario for Ang Electronics, Inc. The company's options include: 1. **Going directly to market:** This option has a 40% chance of success with a payoff of $34.2 million and a 60% chance of failure with a payoff of $12.2 million. 2. **Conducting test-marketing:** This option costs $1.32 million and increases the chance of success to 70%. The exercise requires calculating the Net Present Value (NPV) for both strategies using a discount rate of 12% to determine which option is more financially viable. Please complete the calculations and answer if the firm should conduct test-marketing based on the NPVs obtained.
Expert Solution
Step 1

Formula to calculate the NPV is:

NPV = Cash flows/(1+i)^n - Initial investment

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