A Family Business Is Considering Making an Investment in Its

question 87

Multiple Choice

A family business is considering making an investment in its manufacturing operation. Three decisions are under consideration: (1) a large investment; (2) a medium investment; and (3) a small investment. The business believes that there are three possible future outcomes for its product: (1) increasing demand; (2) stable demand; and (3) decreasing demand. The following payoff table describes the decision situation: The best decision for the business using the equal likelihood criterion would be to

• A) make the large investment.
• B) make the medium investment.
• C) make the small investment.
• D) choose increasing demand.

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Definitions:

Option Value

The premium or price for holding an option, representing the potential benefit of choosing one course of action over another.

Convertible Bond

An investment vehicle that offers the ability to be exchanged for a set portion of the company's shares at predefined periods within its term, usually upon the bondholder's initiative.

Call's Value

The intrinsic value of a call option, reflecting the difference between the underlying asset's price and the strike price of the option, if positive.

Exercise Price

The price at which the holder of an option can buy (call) or sell (put) the underlying asset or security.