Reference no: EM132853012

Question - Zoom Technologies Inc. is considering expanding its operations into digital music devices. Zoom anticipates an initial investment of $1.3 million and, at an operational life of 3 years for the project. Zoom's management team has considered several probable outcomes over the life of the project, which it has labeled as either "successes" or "failures". Accordingly, Zoom anticipates that in the first year of operations there is a 65 percent chance of "success", with after-tax cash flow of $800,000, or a 35 percent chance of "failure", with and meager $1,000 cash flow after tax.

If the project "succeeds" in the first year, Zoom expects three probable outcomes regarding net cash flows after tax in the second year. These outcomes are $2.2 million, $1.8 million, or $1.5 million, with probabilities of 30 %, 50%, and 20% respectively. In the third and final year of operations, the net cash flows after tax are expected to be either $35,000 more or $55,000 less than they were in Year 2, with and equal chance of occurrence.

If, on the other hand, the project "fails" in Year 1, there is a 60 percent chance that it will produce net cash flows after tax of only $1,500 in years 2 and 3. There is also a 40 percent chance that it will really fail and Zoom will earn nothing in Year 2 and will get out of this line of business, terminating the project and resulting in no net cash flows after tax in Year 3.

The opportunity cost of capital for Zoom Technologies is 10 percent.

Required -

a) Construct a decision tree representing the possible outcomes.

b) Determine the joint probability for each possible sequence of events.

c) What is the project's expected NPV?