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Risk and Return

X comapny is considering the pruchase of one of two microfilm cameras, R and S. Both should provide benefits over a 10-year period, and each requires an initial investment of \$4,000. Management has constructed the table of estimates as follows.

Camera R Camera S

amount probability amount probability

initial investment \$4,000 1.00 \$4,000 1.00

Annual rate of return

Pessimistic 20% 0.25 15% 0.20

Most likely 25% 0.50 25% 0.55

Optimistic 30% 0.25 35% 0.25

a. Determine the range for the rate of return for each of the two cameras

b. Determine the expected value of return for each camera

c. Purchase of which camera is riskier? why?

Solution Preview

X comapny is considering the pruchase of one of two microfilm cameras, R and S. Both should provide benefits over a 10-year period, and each requires an initial investment of \$4,000. Management has constructed the table of estimates as follows.

Camera R Camera S
Amount Probability Amount Probability
Initial ...

Solution Summary

The solution calculates the range for the rate of return and the expected value of return for investment in each of the two cameras , given the probability distribution of returns and identifies purchase of which camera is riskier.

\$2.19