Certainty Equivalents. Pier-4, Inc. is a rapidly growing chain of sea-food restaurants. The company has a limited amount of capital for expansion, and must carefully weigh available alternatives. Currently, the company is considering opening restaurants in Providence, Rhode Island and/or Gloucester, Massachusetts. Projections for the two potential outlets are:
Each restaurant would involve a capital expenditure of $2.5 million, and the company uses the 10% yield on risk-free U.S. Treasury bills to calculate the risk-free annual opportunity cost of investment capital.
A. Calculate the expected value, standard deviation, and coefficient of variation for each outlet's profit contribution.
B. Calculate the minimum certainty equivalent adjustment factor for each restaurant's cash flows that would justify investment in each outlet.

Question

Certainty Equivalents. Pier-4, Inc. is a rapidly growing chain of sea-food restaurants. The company has a limited amount of capital for expansion, and must carefully weigh available alternatives. Currently, the company is considering opening restaurants in Providence, Rhode Island and/or Gloucester, Massachusetts. Projections for the two potential outlets are:
  Each restaurant would involve a capital expenditure of $2.5 million, and the company uses the 10% yield on risk-free U.S. Treasury bills to calculate the risk-free annual opportunity cost of investment capital.
A. Calculate the expected value, standard deviation, and coefficient of variation for each outlet's profit contribution.
B. Calculate the minimum certainty equivalent adjustment factor for each restaurant's cash flows that would justify investment in each outlet.

Quizplus · Accepted Answer

The Answer of Certainty Equivalents. Pier-4, Inc. is a rapidly growing chain of sea-food restaurants. The company has a limited amount of capital for expansion, and must carefully weigh available alternatives. Currently, the company is considering opening restaurants in Providence, Rhode Island and/or Gloucester, Massachusetts. Projections for the two potential outlets are:
  Each restaurant would involve a capital expenditure of $2.5 million, and the company uses the 10% yield on risk-free U.S. Treasury bills to calculate the risk-free annual opportunity cost of investment capital.
A. Calculate the expected value, standard deviation, and coefficient of variation for each outlet's profit contribution.
B. Calculate the minimum certainty equivalent adjustment factor for each restaurant's cash flows that would justify investment in each outlet.