Question

"A company's marketing strategy will last two years and produce revenue in years 1 and 2 only. The strategy can result in a success, a moderate success, or a failure.
The marketing strategy will cost $54,000 immediately (year 0), $40,000 in year 1, and $16,000 in year 2. There is uncertainty with projected revenues, but the forecasted revenues and probabilities for the marketing strategy are as follows:
- Success: Year 1: $99,000; Year 2: $116,000; Probability: 0.32
- Moderate success: Year 1: $83,000; Year 2: $77,000; Probability: 0.54
- Failure: Year 1: $51,000; Year 2: $44,000; Probability: 0.14
The company's MARR is 18%. You can ignore any other costs except for the marketing costs.
Calculate the expected value of the net present worth for the strategy.
HINT: it is easier to calculate the net present worth of each separate result first (success, moderate success, failure) before dealing with the probabilities."

Answer 1

Solution :-

Present Value of Costs = $54,000 + [ $40,000 / (1 + 0.18 ) ] + [ $16,000 / ( 1 + 0.18 )² ]

= $99,389.26

Expected Revenue of Year 1 = ( $99,000 * 0.32 ) + ( $83,000 * 0.54 ) + ( $51,000 * 0.14 ) = $83,640

Expected Revenue of Year 2 = ( $116,000 * 0.32 ) + ( $77,000 * 0.54 ) + ( $44,000 * 0.14 ) = $84,860

Now Present Value of Expected Revenue = [ $83,640 / (1 + 0.18 ) ] + [ $84,860 / ( 1 + 0.18 )² ]

= $131,826.50

Now Net Present Worth = $131,826.50 - $99,389.26 = $32,437.23

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