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Question
Use the following information to answer the following question(s).Enrico, the owner of a pizza parlor near a large university campus, is considering opening a shop specializing in quick, inexpensive take-out meals that are low in fat and calories. He will use a vacant space adjacent to the pizza parlor. Assume that the project requires an initial cash outlay of $100,000. Finance students from the university have taken on the project as a course assignment. They believe that there is a 50% chance that the project will have modest success and return $11,000 per year for the foreseeable future (a perpetuity). On the other hand, there is a 50% chance that the project will be highly successful and produce returns of $20,000 per year in perpetuity. If the restaurant is modestly successful, Enrico will keep it open, but not expand. If it is well received, he will immediately open 2 more shops at sites close to the sprawling campus. The additional shops would have approximately the same cash flow as the first. Cash flows will be discounted at 10%.
What is the project's NPV if success is modest and it is not expanded?
A) $10,000
B) ($10,000)
C) $110,000
D) The present value of a perpetual cash flow cannot be determined.
Answer
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