Jul 16, 2017 Research papers

# Expected Value and Decision Making

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# Expected Value and Decision Making

INSTRUCTIONS:

Scenario: You are an entrepreneur that has several business investments in real estate, restaurants, and retail stores. You are looking for your next investment opportunity for you and your private equity investment company. You have found two possible alternatives to invest in that will payoff in the next 10 years. Here are the descriptions of the two options.

Option A: Real estate development. This is a risky opportunity with the possibility of a high payoff, but also with no payoff at all. You have reviewed all of the possible data for the outcomes in the next 10 years and these are your estimates of the Net Present Value of the cash flow and probabilities.

High NPV: \$5 million, Pr = 0.5

Medium NPV: \$2 million, Pr = 0.3

Low NPV: \$0, Pr = 0.2

Option B: Retail franchise for Just Hats, a boutique type store selling fashion hats for men and women. This also is a risky opportunity but less so than option A. It has the potential for less risk of failure, but also a lower payoff. You have reviewed all of the possible data for the outcomes in the next 10 years and these are your estimates of the Net Present Value of the cash flow and probabilities.

High NPV: \$3 million, Pr = 0.75

Medium NPV: \$2 million, Pr = 0.15

Low NPV: \$1 million, Pr = 0.1

Assignment

Develop an analysis of these two investments. Use expected value to determine which of these you should choose. Do your analysis in Excel.

Upload both your written report and Excel file to the SLP 2 Dropbox.

BONUS: If these two options could be made to be equal, what would have to change in the payoffs in Option A to make it equal to Option B (not the investment amount)?

SLP Assignment Expectations

Analysis

• Accurate and complete analysis in Excel.

Written Report

• Accurate and complete review of the situation.
• Accurate and complete discussion of the analysis.
• Accurate and complete Recommendation
• Accurate and complete explanation of the rationale and logic.

CONTENT:

Expected value and decision making: stew bus520-mod2-slp Name Course Instructor Date Accurate and complete analysis in Excel Calculations on expected value Real estate developmentExpectedNPVF(x)ValueHigh5,000,0000.52500000Medium2,000,0000.3600000Low00.20Total3100000Retail franchise for Just HatsExpectedNPVF(x)ValueHigh3,000,0000.752250000Medium2,000,0000.15300000Low1,000,0000.1100000Total2650000 The expected value is E(X) = x1p1 + x2p2 + x3p3 + . . . + xnpn. X is the outcome P is the probability A] Review of the situation The analysis on the expected value takes into account the NPV for the three scenarios and the probability. Aggregating the results for the three cases and then comparing results then gives a clearer picture on choosing the better option b

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