Advanced Accounting
12th Edition
ISBN: 9781305084858
Author: Paul M. Fischer, William J. Tayler, Rita H. Cheng
Publisher: Cengage Learning
expand_more
expand_more
format_list_bulleted
Question
Chapter 9.M, Problem 4.5E
To determine
Option:
It represents a rightto trade some quantity of a particular underlying, whetheryou may buy it or sell it.
If an option allows buying a functional stock or share, it is said to be a call option.
If an option allows selling a functional stock or share, it is said to be a put option
Fair value hedge:
A hedge against an asset that has a fixed value that changes according to the supply and demand is known as a fair value hedge.
:
The reasons for whether an option can have a negative value or not.
Expert Solution & Answer
Want to see the full answer?
Check out a sample textbook solution
Students have asked these similar questions
4. Investment timing options
Companies often need to choose between making an investment now or waiting until the company can gather more relevant information about the
potential project. This opportunity to wait before making the decision is called the investment timing option.
Consider the case:
Tolbotics Inc. is considering a three-year project that will require an initial investment of $44,000. If market demand is strong, Tolbotics
Inc. thinks that the project will generate cash flows of $29,000 per year. However, if market demand is weak, the company believes that
the project will generate cash flows of only $2,000 per year. The company thinks that there is a 50% chance that demand will be strong
and a 50% chance that demand will be weak.
If the company uses a project cost of capital of 12%, what will be the expected net present value (NPV) of this project? (Note: Do not round
intermediate calculations and round your answer to the nearest whole dollar.)
-$7,111
O-$6,433
O-$7,788…
. A major cattle feeding operation has entered into a firm commitment to buy 100,000bushels of corn to be delivered to its feed lot in Kansas. The corn is expected to be delivered in90 days. The company is committed to pay $1.50 per bushel. If corn yields are greater thanexpected, the price of corn could decline and the company would experience higher operatingcosts than necessary as a result of the commitment.In order to protect itself against falling corn prices, the company purchased an option to sellcorn in 90 days at a strike price of $1.51 per bushel delivered to a facility in Nebraska.1. Assuming that the company designated the swap as a fair value hedge, identify several criticalcriteria that would need to be satisfied in order to justify this classification.2. Identify several factors that would suggest that the company’s hedge would qualify as beinghighly effective in reducing the risk associated with the firm’s commitment to buy 100,000bushels of corn.3. Explain why an…
Salalah Wind Energy has taken up a new project with
an initial investment of 50000 OMR.The expected
future cashflow from the project over the next three
years will be 22500 OMR, 23500 OMR and 24500
OMR.What is the profitability index if the discount rate
is 7 percent?
Select one:
O a. 1.48
O b. 1.23
O c. 1.44
O d. 1.63
O e. None of these
Chapter 9 Solutions
Advanced Accounting
Ch. 9.M - Prob. 1UTICh. 9.M - Prob. 2UTICh. 9.M - Prob. 3UTICh. 9.M - Prob. 4UTICh. 9.M - Prob. 5UTICh. 9.M - Prob. 1ECh. 9.M - Prob. 2ECh. 9.M - Prob. 3ECh. 9.M - Prob. 4.1ECh. 9.M - Prob. 4.2E
Ch. 9.M - Prob. 4.3ECh. 9.M - Prob. 4.4ECh. 9.M - Prob. 4.5ECh. 9.M - Prob. 4.6ECh. 9.M - Prob. 5ECh. 9.M - Prob. 6.1ECh. 9.M - Prob. 6.2ECh. 9.M - Prob. 7ECh. 9.M - Prob. M.1.1PCh. 9.M - Prob. M.1.2PCh. 9.M - Prob. M.2.1PCh. 9.M - Prob. M.2.2PCh. 9.M - Prob. M.3PCh. 9.M - Prob. M.4.3PCh. 9.M - Prob. M.4.4PCh. 9.M - Prob. M.4.5PCh. 9.M - Prob. M.4.6PCh. 9.M - Prob. M.5PCh. 9.M - Prob. M.6PCh. 9.M - Prob. M.7.1PCh. 9.M - Prob. M.7.2PCh. 9.M - Prob. M.7.3PCh. 9 - Prob. 1UTICh. 9 - Prob. 2UTICh. 9 - Prob. 3UTICh. 9 - Prob. 1.1ECh. 9 - Prob. 1.2ECh. 9 - Exercise 2 (LO 3) The accounting issues associated...Ch. 9 - Prob. 3.1ECh. 9 - Prob. 3.2ECh. 9 - Prob. 3.3ECh. 9 - Prob. 4.1ECh. 9 - Prob. 4.2E
Knowledge Booster
Similar questions
- 4. Investment timing options Companies often need to choose between making an investment now or waiting until the company can gather more relevant information about the potential project. This opportunity to wait before making the decision is called the investment timing option. Consider the case: General Forge and Foundry Co. is considering a three-year project that will require an initial investment of $42,500. If market demand is strong, General Forge and Foundry Co. thinks that the project will generate cash flows of $28,000 per year. However, if market demand is weak, the company believes that the project will generate cash flows of only $2,000 per year. The company thinks that there is a 50% chance that demand will be strong and a 50% chance that demand will be weak. If the company uses a project cost of capital of 14%, what will be the expected net present value (NPV) of this project? (Note: Do not round intermediate calculations and round your answer to the…arrow_forward5. Flexibility options Stay Swift Corp. is looking at investing in a production facility that will require an initial investment of $500,000. The facility will have a three-year useful life, and it will not have any salvage value at the end of the project’s life. If demand is strong, the facility will be able to generate annual cash flows of $255,000, but if demand turns out to be weak, the facility will generate annual cash flows of only $135,000. Stay Swift Corp. thinks that there is a 50% chance that demand will be strong and a 50% chance that demand will be weak. If the company uses a project cost of capital of 13%, what will be the expected net present value (NPV) of this project? -$37,596 -$39,575 -$29,681 -$19,788 Stay Swift Corp. could spend $510,000 to build the facility. Spending the additional $10,000 on the facility will allow the company to switch the products they produce in the facility after the first year of operations if demand…arrow_forwardInvestment Timing Option: Decision-Tree Analysis Kim Hotels is interested in developing a new hotel in Seoul. The company estimates that the hotel would require an initial investment of $24 million. Kim expects the hotel will produce positive cash flows of $4.08 million a year at the end of each of the next 20 years. The project's cost of capital is 12%. a. What is the project's net present value? A negative value should be entered with a negative sign. Enter your answer in millions. For example, an answer of $1.2 million should be entered as 1.2, not 1,200,000. Round your answer to two decimal places. $ 10.68 millionarrow_forward
- Salalah Tourism Service has taken up a new project with an initial investment of 100000 OMR.The expected future cashflow from the project over the next three years will be 47000 OMR, 49000 OMR and 45000 OMR.What is the profitability index if the discount rate is 14 percent? Select one: a. 1.09 b. 1.12 c. 1.18 d. 1.44 e. None of thesearrow_forwardQ.3 (x1=70000 x2=10%) The IPS company has installed a system to help reduce the number of defective products. The capital investment in the system is $X1, and the projected annual savings are tabled below. The system's market value at the EOY five is negligible, and the MARR is x2% per year A. What is the FW of this investment? Based on econonical deciston rule, is this a good investment. b. What is the IRR of the system? Based on economical decision rule, is this a good investmentr. C. What is the discounted pavback period for this investment.arrow_forwardInvestment Timing Option: Option Analysis Kim Hotels is interested in developing a new hotel in Seoul. The company estimates that the hotel would require an initial investment of $20 million. Kim expects the hotel will produce positive cash flows of $3 million a year at the end of each of the next 20 years. The project's cost of capital is 13%. Kim expects the cash flows to be $3 million a year, but it recognizes that the cash flows could actually be much higher or lower, depending on whether the Korean government imposes a large hotel tax. One year from now, Kim will know whether the tax will be imposed. There is a 50% chance that the tax will be imposed, in which case the yearly cash flows will be only $2.2 million. At the same time, there is a 50% chance that the tax will not be imposed, in which case the yearly cash flows will be $3.8 million. Kim is deciding whether to proceed with the hotel today or to wait a year to find out whether the tax will be imposed. If Kim waits a year,…arrow_forward
- You are considering an investment manufacturing cocoa powder. This investment needs $185,000 today and expects to repay you $200,000 in a year from now. What is the IRR of this investment opportunity? Given the riskiness of the investment opportunity, your discount rate is 11%. What does the IRR rule say about whether you should invest? a. The IRR is 7.5%. The IRR rule says that you should not invest. b. The IRR is 8.11%. The IRR rule says that you should not invest. c. The IRR is 1.2%. The IRR rule says that you should not invest. d. The IRR is 16.8%. The IRR rule says that you should invest.arrow_forwardWhat is the value of the abandonment option (in millions), in the question below? Round your answer to two decimal places... Sunshine Smoothies Company (SSC) manufactures and distributes smoothies.It is considering the introduction of a "weight loss" smoothie.The project would require a $4 million investment outlay today (t = 0).The after-tax cash flows would depend on whether the weight loss smoothie is well received by consumers.There is a 30% chance that demand will be good, in which case the project will produce after-tax cash flows of $2 million at the end of each of the next 3 years.There is a 70% chance that demand will be poor, in which case the after-tax cash flows will be $1 million for 3 years.The project is riskier than the firm's other projects, so it has a WACC of 12%.The firm will know if the project is successful after receiving first year's cash flows.After receiving the first year's cash flows it will have the option to abandon the project.If the firm decides to…arrow_forwardNirvana Chip Designs has finished designing its next generation of chips, the XJ5000 series and is getting ready to start production. As the analyst on the project, you are required to prepare pro forma free cash flows. Which of the following are relevant to your analysis? Design cost for the chips Potential lost sales of the XJ4000 chips Proportional cost of the corporate jet lease Start-up investment in raw materials Upgrades to the chip fabrication facility required if the chip is produced Market research done to guide the development of the new chip Market value of land and buildings where new chip will be produced Design cost for the chips. (Select the best choice below.) A. This is relevant because it is an investment in working capital. B. This is relevant as it represents cannibalization of existing sales. C. This is irrelevant because it is a sunk cost. D. This is irrelevant as it represents existing overhead. b. Potential lost sales…arrow_forward
- M1.. Industrialization Enterprise is considering a three-year project that will require an initial investment of $44,000. If market demand is strong, Industrialization Enterprise thinks that the project will generate cash flows of $28,500 per year. However, if market demand is weak, the company believes that the project will generate cash flows of only $1,500 per year. The company thinks that there is a 50% chance that demand will be strong and a 50% chance that demand will be weak. If the company uses a project cost of capital of 14%, what will be the expected net present value (NPV) of this project? (Note: Do not round intermediate calculations and round your answer to the nearest whole dollar.) -$9,176 -$8,258 -$7,800 -$11,011 Industrialization Enterprise has the option to delay starting this project for one year so that analysts can gather more information about whether demand will be strong or weak. If the company chooses to delay the project, it will have to give up a year of…arrow_forwardAssume all risks involved in this question are idiosyncratic (firm-specific) so investors' discount rate is always the risk-free rate, 10%. A firm currently has two assets: $60 million cash and a risky investment project A that lasts for one year. It also has $121 million debt payment due next year. The firm faces an additional risky investment B that also lasts one year, which requires initial investment of $60 million today. Scenario 1 (50%) cash flow of Project A mil cash flow of Project B mil $110 mil $77 mil Scenario 2 (50%) $44 $33 If the manager's objective is to maximize firm value, will they invest in project B? If the manager's objective is to maximize shareholder value, will they invest in project B? Please explain.arrow_forwardThe International Parcel Service has installed a new radio frequency identification system to help reduce the number of packages that are incorrectly delivered. The capital investment in the system is $65,000, and the projected annual savings are tabled below. The system’s market value at the EOY five is negligible, and the MARR is 18% per year. Solve, a. What is the FW of this investment? b. What is the IRR of the system? c. What is the discounted payback period for this investment?arrow_forward
arrow_back_ios
SEE MORE QUESTIONS
arrow_forward_ios
Recommended textbooks for you
EBK CONTEMPORARY FINANCIAL MANAGEMENTFinanceISBN:9781337514835Author:MOYERPublisher:CENGAGE LEARNING - CONSIGNMENT
EBK CONTEMPORARY FINANCIAL MANAGEMENT
Finance
ISBN:9781337514835
Author:MOYER
Publisher:CENGAGE LEARNING - CONSIGNMENT