Ersatz Beneficial Insurance wants to estimate the cost of damage to cars due to accidents. The standard deviation of the cost is
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Answer:
Expected Net Cash Flow = $3.8 million
Net Present Value (NPV) = $1.0492 million
Explanation:
Given Cash outflow = $10 million
Provided cash inflows as follows:
Particulars Good condition Moderate condition Bad Condition
Probability 30% 40% 30%
Cash flow $9 million $4 million $1 million
Average expected cash flow each year = ($9 million X 30 %) + ($4 million X 40%) + ($1 million X 30%) = $2.7 million + $1.6 million + $0.3 million = $4.6 million
Three year expected cash flow = ($4.6 million each year X 3) - $10 million = $13.8 million - $10 million = $3.8 million
While calculating NPV we will use Present Value Annuity Factor (PVAF) @12% for 3 years =
NPV = PV of inflows - PV of Outflows = $4.6 million X 2.402 - $10 million = $11.0492 million - $10 million = $1.0492 million
Expected Net Cash Flow = $3.8 million
Net Present Value (NPV) = $1.0492 million