China Importers Would Like to Spend $215,000 to Expand Its

question 97

Multiple Choice

China Importers would like to spend $215,000 to expand its warehouse.However, the company has a loan outstanding that must be repaid in 2.5 years and thus will need the $215,000 at that time.The warehouse expansion project is expected to increase the cash inflows by $60,000 in the first year, $140,000 in the second year, and $150,000 a year for the following 2 years.Should the firm expand at this time? Why or why not?

• A)Yes; because the money will be recovered in 1.69 years
• B)Yes; because the money will be recovered in 1.87 years
• C)Yes; because the money will be recovered in 2.10 years
• D)No; because the project never pays back
• E)No; because the money will not be recovered in time to repay the loan

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Definitions:

Call Contracts

Financial derivatives that give the holder the right, but not the obligation, to buy an asset at a set price within a specific time period.

Underlying Stock

The security on which a derivative instrument, such as an option or a warrant, is based.

Black-Scholes Option Pricing Model

A mathematical model used to determine the theoretical price of European put and call options, incorporating factors like volatility and time to expiration.

Strike Price

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