# Alternative Approaches to Valuation and Investment

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## Week 1 Graded Quiz

1.
Question 1
4 possible returns can be achieved by the cereal division of a food and beverage company, -20%, 0%, 15% and 60%. The likelihood of these returns are 10%, 20%, 50% and 20% respectively. Which of the following is closest to the standard deviation of returns for the division?

1 point

• 19%
• 20%
• 24%
• 27%

2.
Question 2
The closing price at (t) is \$64.64, closing price at (t-1) is \$67.91 and the opening price at (t-1) is \$70. Which of the following is closest to the return on day t (as measured in the lectures)?

1 point

• -2%
• -5%
• -7%
• -10%

3.
Question 3
As described in the lecture slides, there are three alternative attitudes towards risk. A risk-averse investor demands compensation, in the form of higher expected returns, for bearing risk. Are these statements true or false?

1 point

• True
• False

4.
Question 4
Risk neutral investors have a utility function that is not affected by risk. They make their investment decision solely on the specific terms and features of the particular investment. Is this last statement true or false?

1 point

• True
• False

5.
Question 5
In video 2 we covered expected return and standard deviation of a particular asset. However, most investors hold a portfolio of different investments and we can calculate the portfolio expected return. Which of the following best describes the process involved in calculating the portfolio expected return?

1 point

• We take the weighted average (proportion of wealth invested in each asset) expected return of the assets in the portfolio
• We take the weighted average expected return of only a few investments – generally only the top 5 – because smaller investments have a marginal effect on expected return
• We add the expected return of the assets and deduct it by the risk free rate.
• We add the expected return of each of the assets

6.
Question 6
A hedge fund portfolio manager has two investments in her portfolio. She has different amounts invested in these two investments. The details are as follows:

Lvmh – Standard deviation of 10%, \$1,000,000

Zara – Standard deviation of 6%, \$2,700,000

Lvmh and Zara’s correlation coefficient is 0.3

Which of the following is closest to the standard deviation for this particular portfolio?

1 point

• 4.2%
• 5.1%
• 5.8%
• 8%

7.
Question 7
Diversification is a key area in this particular course. What key element is required to determine the diversification benefit?

1 point

• Return of the two individual assets
• Fundamental analysis of accounting ratios
• Weighted average return of the two assets
• Correlation coefficient

8.
Question 8
A hedge fund portfolio manager who focuses on retail businesses has 3 investments in one portfolio. She has different amounts invested in each of these investments. The standard deviation, amount invested in each asset and covariances are as follows:

Lvmh: Standard deviation of 8%, \$1,000,000

Zara: Standard deviation of 10%, \$2,700,000

Abercrombie and Fitch: Standard deviation of 13%, \$900,000

Covariance between Lvmh and Zara: 0.004

Covariance between Zara and Abercrombie & Fitch: 0.007

Covariance between Lvmh and Abercrombie & Fitch: 0.002

Which of the following is closest to the standard deviation for this particular portfolio?

1 point

• 7.6%
• 8.5%
• 9.1%
• 10.5%

9.
Question 9
The standard deviation of an asset can be easily calculated. What is the relationship between the variance and standard deviation of a particular asset?

1 point

• Variance = (standard deviation)2
• Variance = (Standard deviation) x 2
• Standard deviation = (Variance)2
• Standard deviation = (Variance) x 2

10.
Question 10
Which of the following is true about the correlation coefficient?

1 point

• Perfect negative correlation= 0
• It is also known as sigma
• The correlation coefficient between listed equities tends to be positive
• It can only take value between 0 and +1

## Week 2 Graded Quiz

1.
Question 1
You hold a very-well diversified portfolio. It happens to mimic the returns of large and mid-sized companies listed in Singapore. If we add another asset to the portfolio, which of the following will we be compensated for?

1 point

Systematic risk of the additional asset

Total risk of the asset

Unsystematic risk of the additional asset

The correlation of the portfolio’s returns with the assets not in the portfolio.

2.
Question 2
Your superannuation plan has investments in equities and fixed income securities. The equally weighted equity portfolio includes 3 stocks. It includes Go-pro, Apple and Tesla. The betas for these stocks are 0.5, 0.84, and 0.72 respectively. Which of the following is closest to beta of the equity portfolio?

1 point

0.71

0.43

0.69

0.59

3.
Question 3
Microsoft has a beta of 1.33. The yield on 10 year Treasury bonds is 2% and the expected market risk premium is 8%. Which of the following is closest to the expected return from a share of Microsoft?

1 point

10.3%

8%

11.9%

12.6%

4.
Question 4
Which of the follow statements about the CAPM is false?

1 point

The risk free rate is multiplied by the asset/portfolio beta

The beta is multiplied by the market risk premium

As the market risk premium increases, all other things remaining equal, the expected return of a risky asset will increase

The expected return for a risky asset is always greater than the risk free rate

5.
Question 5
Eugene Fama and Kenneth French published a paper titled “The Cross-section of Expected Stock Returns”. They tested whether variability of stock returns could be explained by a number of variables. Which of the following was a variable used by Fama and French?

1 point

Historical returns

Standard deviation of the asset (total risk)

Size measured using market capitalization

CEO tenure

6.
Question 6
Which of the following statements are consistent with the premise that the CAPM is the correct model in explaining expected returns?

1 point

Size and book to market values are required in addition to beta to explain variability in returns

The expected returns of assets should not be correlated with any measurable factors.

A stock market index is really the true market portfolio

Only beta should explain variability in returns

7.
Question 7
In the “The Cross-Section of Expected Stock Returns” by Fama and French, which of the following is true about the book value of equity (BV)/Market value of equity variable (MV)?

1 point

The firms with higher BV/MV ratio experience higher average monthly returns

High BV/MV implies growth stock

There is no relationship between the BV/MV and average monthly return

The firms with lower BV/MV ratio experience higher average monthly returns

8.
Question 8
Liquidity has been shown by researchers to explain returns. Which of the following is true about the relationship between liquidity and returns?

1 point

Lower variability in trading volumes associated with higher expected returns

Lower variability in trading volumes associated with lower expected returns

High variability in trading volumes associated with lower expected returns.

None of the above is true regarding the relationship between liquidity and returns

9.
Question 9
Coleman, Maheswaran and Pinder survey senior financial managers in Australia in 2010. Which of the following discount rates is the most popular when companies need to evaluate a new project?

1 point

A risk-matched discount rate for the project

The discount rate for the entire company

A different discount rate for each cash flow

A discount rate for the domestic market

10.
Question 10
You currently hold a portfolio that is expected to provide a return of 10%. The risk free rate is 2% and market portfolio is expected to provide a return of 8%. Which of the following is closest to the beta of this particular portfolio?

1 point

1.29

1.24

1.33

1.55

## Week 3 Graded Quiz

1.
Question 1
In the WACC calculation we multiply the cost of debt capital by (1-tc). Why do we do this?

1 point

Because the firm needs to pay 1-tc of the cost of debt to the government

Because the firm makes interest payments to the lender and these payments are tax deductible

Because the firm has lent money to the borrower and therefore part of the cost of debt is subject to tax

None of the above reasons explain why we multiple the cost of debt capital by (1-tc)

2.
Question 2
Companies are fiercely protective of letting others know the value of their WACC. Is this statement true, and if so why would they be?

1 point

False. Companies do not mind releasing their WACC to the public

True. Banks and other debt holders may start charging higher interests rates if they get to know the firms WACC.

True. Because the competitors may aim to obtain the same WACC to remain competitive

True. It can give competitors an advantage when bidding for particular assets

3.
Question 3
YNB Ltd. acquired MOU Pty Ltd. 10 years ago. In order to fund this acquisition, YNB Ltd issued a bond. Currently it has an outstanding amount of \$50,000,000 with maturity in 2 years. The bond has a coupon rate of 5% (payable annually). Which of the following is closest to the current price of the bond given the YTM is 7%?

1 point

\$49,000,000

\$45,948,555

\$48,191,982

\$50,000,000

4.
Question 4
ABC Ltd. has three different bonds. The details of these bonds are as follows:

1. Bond maturing in 2016, Market Value = 1.5 bn, Cost of debt = 2.45%

2. Bond maturing in 2019, Market Value = 2.1 bn, Cost of debt = 2.9%

3. Bond maturing in 2025, Market Value = 1 bn, Cost of debt = 3.2%

Which of the following is closest to ABC’s weighted average cost of debt (ignore taxes)?

1 point

2.95%

3.04%

2.82%

2.59%

5.
Question 5
The cost of equity can be determined in multiple ways. Which of the following is not a method in which we can calculate the cost of equity?

1 point

Fama French 3 factor model

CAPM

Dividend growth model

Using only the historical P/E of the company

6.
Question 6
You have built a large successful sports management business – Superstars Ltd. The shares in you company are not yet listed but there are two competitors that are listed and operate in the same market – Gunners Ltd. and Numberone Ltd. The asset betas of your competitors are 0.5 and 0.7 respectively. The debt to equity ratio of your company is 0.2. The issued debt for all companies is investment grade so the debt beta is zero. Which of the following is closest to the estimate of equity beta for Superstars Ltd.?

1 point

0.88

0.58

0.78

0.68

7.
Question 7
The CEO of Kellogg’s has to decide between two independent investment opportunities:

a. A new line of cereal, which will produce an internal rate of return of 10%

b. A new line of muesli bars, which will produce an internal rate of return of 8%

Assuming a firm wide WACC of 9% and project acceptance is solely based on WACC and internal rate of returns, which of the following will occur?

1 point

Kellogg’s will invest in Project A

Kellogg’s will invest in Project B

Kellogg’s will invest in Project A & B

Kellogg’s will not invest in Project A & B

8.
Question 8
Jagannathan, Matsa, Meier and Tarhan examine the discount rate used for projects by US listed firms. What do they compare this particular discount rate with?

1 point

Compare it to the firm’s reported WACC

Compare it with the cost of equity

Compare it with the cost of debt

Compare it to their own estimate of the firm’s WACC

9.
Question 9
Pension liability is a form of debt. The company will be required to repay employees in a future period. Therefore, we must include this source of debt in the WACC calculation. Is this statement true or false?

1 point

True

False

10.
Question 10
If the one-year rate is 4% and the two-year rate is 7%. Assuming that all possible strategies have the same default risk, which of the following is closest to the expected one year rate one year from now (i.e. E (i1,2))?

1 point

11.50%

10.65%

9.10%

10.09%

## Week 4 graded quiz

1.
Question 1
A new mineral – Lovellanium – is discovered in Warrnambool Caves, Victoria. You estimate that PV(Extraction Costs) are \$80 m and the PV(Revenues) are equal to \$100 m. The Victorian government puts out to tender the right to extract the Lovellanium with the condition being that full extraction occur immediately and that contracts are signed which lock in current extraction costs and the current sale price of the mineral. Which of the following statements is correct?

1 point

This is a negative NPV project that should be avoided.

This project involves a real option that has value and hence we should demand compensation for the government in order to take on the project.

This is a positive NPV project that should be immediately invested into – provided that the cost of the license is less than \$20m.

None of the above statements are correct

2.
Question 2
At expiry it is optimal to exercise an option to expand only when the intrinsic value of the option is greater than the price (also referred to as the ‘premium’) paid for the option. Is this statement true or false?

1 point

True

False

3.
Question 3
Which of the following statements best describes the option to expand?

1 point

It is a call option where the option premium is the cost of establishing the right to expand

It is a call option where the option premium is the cost of expansion

It is a put option where the option premium is the cost of establishing the right to expand

It is a put option where the option premium is the cost of expansion

4.
Question 4
Which of the following statements best describes the option to abandon operations?

1 point

It is a put option where the option premium is the cost of establishing the right to abandon

It is a call option where the option premium is the salvage value of assets

It is a put option where the option premium is the salvage value of assets

It is a call option where the option premium is the cost of establishing the right to abandon

5.
Question 5
Which of the following statements best describes the situation where it might make sense to exercise an option to abandon operations early?

1 point

When the present value of cash flows from continued operations far exceed the salvage value of assets

When the operation is about to distribute very small cash flows – which might be regarded as similar to a dividend

When the operation is about to distribute large significant cash flows – which might be regarded as similar to a dividend

None of the other statements describes such a situation

6.
Question 6
A decision-tree is used to estimate the value of an option to expand a project. The present value of the decision tree with the option is \$10 million, the present value of the decision tree without the option is \$8 million and the cost of expansion is \$1m to be paid in 5 years. The discount rate is 10% per annum. Which of the following is closest to the estimated value of the real option?

1 point

\$10 million

\$2 million

\$1 million

\$621,000

7.
Question 7
A decision-tree is used to estimate the value of an option to abandon a project. The present value of the decision tree with the option is \$8 million, the present value of the decision tree without the option is \$6 million and the estimated salvage value of assets is \$1m to be received in 5 years. The discount rate is 10% per annum. Which of the following is closest to the exercise price of the embedded option?

1 point

\$8 million

\$2 million

\$1 million

\$621,000

8.
Question 8
You have been asked to bid on a project that has embedded within it an option to expand operations. A decision-tree approach is employed to assess the value of the future net cash flows from the project (excluding the up-front payment required) – with and without the option to expand. The present value of the decision tree with the option is \$10 million, the present value of the decision tree without the option is \$8 million and the cost of expansion is \$1m to be paid in 5 years. The discount rate is 10% per annum. Which of the following is closest to the price at which you would be indifferent between investing in the project or investing in a similar project of equal risk?

1 point

\$621,000

\$2 million

\$10 million

\$1 million

9.
Question 9
You have been asked to consider taking on a project that has embedded within it an option to expand operations. A decision-tree approach is employed to assess the value of the future net cash flows from the project (excluding the up-front payment required) – with and without the option to expand. The present value of the decision tree with the option is \$10 million, the present value of the decision tree without the option is \$8 million and the cost of expansion is \$1m to be paid in 5 years. The discount rate is 10% per annum. If the up-front payment required is \$10.5m with the option embedded or \$7.5m without the embedded option – what would your investment decision be?

1 point

Invest in project with embedded option

Invest in project without embedded option

Do not invest in project at all

None of the above

10.
Question 10
Real options analysis tells us that an increase in uncertainty always increases the value of a project. Is this statement true or false?

1 point

True

False

## Course Final Exam

1.
Question 1
Expected return can be calculated by taking the sum of the products of each return that could occur and the likelihood of it actually occurring. Is this statement true or false?

1 point

True

False

2.
Question 2
4 possible returns can be achieved by the cereal division of a food and beverage company, -20%, 0%, 15% and 60%. The likelihood of these returns are 10%, 20%, 50% and 20% respectively. Which of the following is closest to the expected return from the division?

1 point

16%

17%

17.5%

16.5%

3.
Question 3
There are four investments available to a risk-neutral investor. The details on the investments available are as follows:

• Government bonds – Expected return of 2.5%, Risk 0%

• Apple – Expected return of 8%, Risk 7.5%

• Herbalife – Expected return of 15%, Risk 12%

• Term deposit – Expected returns of 2%, Risk 1%

Which one of the following will they invest in?

1 point

Hold money

Invest in Herbalife

Invest in Apple

Invest in Government bonds

4.
Question 4
A risk-seeking investor derives utility from both expected return and risk. Is this statement true or false?

1 point

True

False

5.
Question 5
When you invest in two assets you often have diversification benefits. The diversification can be calculated by taking the difference between sigma (weighted average of the two assets standard deviation) and sigma (portfolio).

Is this statement true or false?

1 point

False

True

6.
Question 6
Two assets in the market have a zero correlation (ρ(1,2)=0). Asset 1 can still provide us with information about the return for Asset 2. Is the second statement true or false?

1 point

False

True

7.
Question 7
The standard deviation for two assets is 10% and 15% respectively. The coefficient of correlation for the assets is 0.4. Which of the following is closest to the covariance of this portfolio?

1 point

0.009

0.006

0.002

0.004

8.
Question 8
ρ represents the correlation coefficient between the returns of two assets. All else constant, when we have a lower value of ρ, what tends to happen?

1 point

The risk of the portfolio (standard deviation) increases for a given level of risk of the individual assets

The risk of the portfolio (standard deviation) decreases for a given level of risk of the individual assets

The risk of the portfolio (standard deviation) doesn’t change

The risk of the portfolio (standard deviation) must decrease by 1% for every 0.1 decrease in the value of ρ

9.
Question 9
Expected return for an asset is simply the average of the expected returns of the assets in the portfolio. Therefore, it must be true that the standard deviation is simply the average of the standard deviations of the assets in the portfolio. Is the statement on standard deviation true or false?

1 point

False

True

10.
Question 10
Which of the following is not true about the correlation coefficient?

1 point

Perfect positive correlation= +1 & Perfect negative correlation =-1

The correlation coefficient cannot take a value of zero

It is also known as rho

It can take any value between +1 and -1

11.
Question 11
An analyst wishes to calculate the correlation between the returns of a particular asset and the market index. He finds that the market index standard deviation is 9.5% and the asset’s standard deviation is 16%. The beta is 0.6. Which of the following is closest to the correlation between the returns from the asset and the market index?

1 point

0.36

0.43

0.52

0.83

12.
Question 12
Which of the following is correct regarding the Risk-free rate of return?

1 point

Rate of return that can be obtained through an investment in a blue-chip (well established and financially sound stock) company

Rate of return that can be obtained through an investment in the market index

A proxy for the risk-free rate of return are treasury bill yields

Rate of return obtained through a fully diversified portfolio of risky assets

13.
Question 13
You have two assets in an equally weighted portfolio. These two investments are Ford Motors and Ali baba. The yield on 10-year treasury bonds is 2% and the market risk premium is 9%. The beta of Ford is 1.25 and 1.76 for Ali baba. Which of the following is closest to the systematic risk and expected return of this particular portfolio?

1 point

Systematic risk (Beta)= 1.47 & Expected return = 15.2%

Systematic risk (Beta)= 1.23 & Expected return = 12.5%

Systematic risk (Beta)= 1.58 & Expected return = 16.2%

Systematic risk (Beta)= 1.51 & Expected return = 15.5%

14.
Question 14
The CAPM is a model of expectations. There are 3 key problems associated with the CAPM model discussed in the lecture. Which of the following is not a key problem identified in the lecture?

1 point

Return interval

Measurement

Estimation period

Specification

15.
Question 15
Market to book value is one of the variables used by Fama and French in their analysis of companies. A high market value to book value implies a value firm. Are these statements true or false?

1 point

The first statement is true but the second statement is false

The first statement is true and the second statement is true

The first statement is false and the second statement is true

The first statement is false and the second statement is false

16.
Question 16
In the “The Cross-Section of Expected Stock Returns” by Fama and French, which of the following is true about the size variable?

1 point

Smallest firms have high average monthly returns in comparison to the largest firms

Largest firms have high average monthly returns in comparison to the smallest firms

Small and large firms have similar average monthly returns

There is no relationship between the firm size and average monthly return

17.
Question 17
The Fama – French 3 factor model uses three different variables which have been proven to provide explanatory power for stock returns. Which of the following is true regarding the beta of SMB and HML?

1 point

The higher the beta the lower the sensitivity of returns to the factor

The lower the beta the higher the sensitivity of returns to the factor

The higher the beta the higher the sensitivity of returns to the factor

None of the above answers are true.

18.
Question 18
The Fama French 3- factor model builds on the standard CAPM model by introducing 2 additional factors. Which of the following is incorrect regarding these 2 additional factors?

1 point

The E(Rsmb) is calculated from a portfolio of large minus small stocks

The E(Rhml) is calculated from a portfolio of high minus low book to market value stocks

The two factors are multiplied by a sensitivity measure we call beta

The sensitivity number to each factor can be different

19.
Question 19
When we graph the CAPM we end up with the SML. The horizontal axis represents the systematic risk, what does the vertical axis represent?

1 point

Expected return

Historical return

Realized return

Unexpected return

20.
Question 20
The company’s choices will impact upon the company’s beta. Which of the following is least likely to impact the beta of the company?

1 point

Investment bank partner

Investment policy

Leverage policy

Hedging policy

21.
Question 21
ABC Ltd. currently pays 7% on its debt and has a cost of equity of 15%. It consulted an investment bank and was advised to have a debt to equity ratio of 0.8. Its current market value of debt is \$1,000,000. Which of the following is closest to ABC Ltd’s WACC (Assuming zero tax rate)?

1 point

10.26%

10.73%

11.44%

13.23%

22.
Question 22
The after-tax interest cost for \$1 million dollars worth of debt is \$86,000. If the cost of debt is 12%, which of the following is closest to the implied corporate tax rate?

1 point

30%

33%

28%

17%

23.
Question 23
We can convert sub-period rate where there are m sub-periods per period into a rate per period using the following relationship: 1+i=(1+j)^m . If we have a coupon rate of 9% (payable every quarter), which of the following is the per annum equivalent rate?

1 point

10.3%

9%

14%

41.2%

24.
Question 24
The relationship between interest rates and term to maturity is known as the term structure of interest rates. Which of the following is the best accepted reason as for why short term interest rates are different to long term rates?

1 point

Longer term rates build in expectations of changing future short term rates

Long term interest rates are less risky than short term interest rates

Short term rates provide some information on long term interest rates

Transaction costs

25.
Question 25
A firm has a beta of 0.9. The market risk premium is 8% and the treasury bill rate is 2.5%. Which of the following is closest to the cost of equity for this business?

1 point

9.7%

11.5%

12.8%

10.2%

26.
Question 26
You have built a large successful sports management business – Superstars Ltd. The shares in you company are not yet listed but there are two competitors that are listed and operate in the same market – Gunners Ltd. and Numberone Ltd. The asset betas of your competitors are 0.5 and 0.7 respectively. The debt to equity ratio of your company is 0.3. The issued debt for all companies in this economy is investment grade. Which of the following is closest to cost of equity assuming a risk free rate of 2% and market risk premium of 8%?

1 point

6.93%

8.24%

8.88%

7.94%

27.
Question 27
Conglomerate firms are firms with many business divisions. Which of the following is a possible consequence of a conglomerate firm using a single WACC as the benchmark rate to assess all projects?

1 point

The systematic risk of the company may increase as low-risk projects are rejected in favor of high-risk projects

The systematic risk of the company may decrease as low-risk projects are rejected in favor of high-risk projects

The value of the firm will increase as higher risk negative NPV projects are mistakenly accepted.

None of the above

28.
Question 28
During the lecture we discussed reasons why firms might use excessively high discount rates in project assessment. Which of the following is not one of those potential reasons?

1 point

Due to financial constraints

In recognition of the value of flexibility and the “stickiness of investment decision”

Projects have become more risky over time

Natural conservatism of managers

29.
Question 29
Which of the following is correct regarding the calculation of coupon payments?

1 point

Coupon rate x \$Face Value

Coupon rate x \$Present Value

Yield to maturity x \$Face Value

None of the above. Companies have their own way of calculating the coupon payments

30.
Question 30
The term structure of interest rates has not changed dramatically between January 2001 to January 2015. Is this statement true or false?

1 point

True

False

31.
Question 31
A new mineral – Mellowanium – is discovered in Mallacoota, Victoria. You estimate that PV(Extraction Costs) are \$100 m and the PV(Revenues) are equal to \$80 m. The Victorian government puts out to tender the right to extract the Mellowanium with the condition being that care be exercised when extracting the mineral so as not to damage the local environment surrounding the mineral deposit – and this requirement has been included in the extraction cost estimates. Which of the following statements is correct?

1 point

This is a negative NPV project that should be avoided.

This project involves a real option that has value and hence we should bid a positive price for the license to extract.

This is a positive NPV project that should be immediately invested into – provided that the cost of the license is less than \$20m.

None of the above statements are correct

32.
Question 32
At expiry it is optimal to exercise an option to expand only when the present value of the incremental cash flows from expanded operations exceeds the cost of expansion. Is this statement true or false?

1 point

True

False

33.
Question 33
Which of the following statements best describes the option to expand?

1 point

It is a put option where the underlying asset is the present value of the incremental cash flows from expanded operations

It is a call option where the underlying asset is the cost of expanding operations

It is a put option where the underlying asset is the cost of expanding operations

It is a call option where the underlying asset is the present value of the incremental cash flows from expanded operations

34.
Question 34
Which of the following statements best describes the option to abandon operations?

1 point

It is a put option where the underlying asset is the cost of abandoning operations

It is a put option where the underlying asset is the present value of the cash flows from continued operations

It is a call option where the underlying asset is the present value of the cash flows from continued operations

It is a call option where the underlying asset is the cost of abandoning operations

35.
Question 35
Which of the following statements best describes the situation where it often makes sense to exercise an option to expand operations early?

1 point

When the present value of cash flows from continued operations far exceed the salvage value of assets

When the operation is about to distribute large significant cash flows – which might be regarded as similar to a dividend

When the operation is about to distribute very small cash flows – which might be regarded as similar to a dividend

When the present value of cash flows from continued operations is far below the salvage value of assets

36.
Question 36
You have been asked to consider taking on a project that has embedded within it an option to expand operations. A decision-tree approach is employed to assess the value of the future net cash flows from the project (excluding the up-front payment required) – with and without the option to expand. The present value of the decision tree with the option is \$10 million, the present value of the decision tree without the option is \$8 million and the cost of expansion is \$1m to be paid in 5 years. The discount rate is 10% per annum. If the up-front payment required is \$9.5m with the option embedded or \$8.5m without the embedded option – what would your investment decision be?

1 point

Invest in project with embedded option

Invest in project without embedded option

Do not invest in project at all

None of the above

37.
Question 37
You have been asked to consider taking on a project that has embedded within it an option to expand operations. A decision-tree approach is employed to assess the value of the future net cash flows from the project (excluding the up-front payment required) – with and without the option to expand. The present value of the decision tree with the option is \$10 million, the present value of the decision tree without the option is \$8 million and the cost of expansion is \$1m to be paid in 5 years. The discount rate is 10% per annum. If the up-front payment required is \$10.5m with the option embedded or \$8.5m without the embedded option – what would your investment decision be?

1 point

Invest in project with embedded option

Do not invest in project at all

Invest in project without embedded option

None of the above

38.
Question 38
Which of the following describes the situation where it is most likely to be important to account for real options?

1 point

When uncertainty about the future is low and flexibility is high

When uncertainty about the future is low and flexibility is low

When uncertainty about the future is high and flexibility is high

When uncertainty about the future is high and flexibility is low

39.
Question 39
Which of the following describes the situation where it is most likely to be important to account for real options?

1 point

When the likelihood of receiving new information is low and the ability to respond to that new information is low

When the likelihood of receiving new information is low and the ability to respond to that new information is high

When the likelihood of receiving new information is high and the ability to respond to that new information is low

When the likelihood of receiving new information is high and the ability to respond to that new information is high

40.
Question 40
Four reasons were cited in the lecture to explain why managers often don’t use real options analysis. Which of the following is the least popular reason?

1 point

Encourages too much risk-taking

Discounted cash flow is a proven method

Lack of top management support

Requires too much sophistication

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