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Start working on Chapter One Homework

Learn about Present Value, Net Present Value, Perpetuity, and Firm Valuation in Managerial Economics. Understand how to make financial decisions based on cost analysis, control variables, and marginal analysis.

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Start working on Chapter One Homework

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  1. Start working on Chapter One Homework Numbers 10, 12 and 17

  2. Managerial Economics & Business Strategy Chapter 1 The Fundamentals of Managerial Economics

  3. Present Value of a Series • What if you are “promised” different amounts every year?? • Present value of a stream of future amounts (FVt) received at the end of each period for “n” periods:

  4. Net Present Value • Suppose a manager can purchase a stream of future receipts (FVt) by spending “C0” dollars today. The NPV of such a decision is • PV – Costs of the project Decision Rule: If NPV < 0: Reject project NPV > 0: Accept project

  5. What is the maximum we would pay? (number 2) • What is the maximum amount you would pay for an asset that generates an income of $150,000 at the end of each of five years if the opportunity cost of using the funds is 9 percent?

  6. Can we do it?? • Buzz-Dot-Com is trying to decide whether or not to purchase a new flying device that will cost them $200,000 and will be “good” for five years. The device will reduce costs by $40,000 the first year, $50,000 the second year, $65,000 the third year, and $80,000 the fourth and fifth years. • What is the PV of cost savings if the interest rate is 8%. • Should Buzz-Dot-Com purchase the device?

  7. Can we??

  8. Present Value of a Perpetuity • An asset that perpetually generates a stream of cash flows (CF) at the end of each period is called a perpetuity. • If cash flow IS THE SAME EACH YEAR such as certain bonds or stocks….

  9. Can we do it? (number 5) • What is the value of a preferred stock that pays a perpetual dividend of $75 at the end of each year when the interest rate is 4%?

  10. How much is a firm worth?? • The value of a firm equals the present value of current and future profits • So maximization of profits really means… • Maximize firm value • Which means….Maximize present value of current and future profits

  11. Goal: Compare BENEFITS of the project to the COSTS Control Variables Output Price Product Quality Advertising R&D Basic Managerial Question: How much of the control variable should be used to maximize net benefits? Marginal (Incremental) Analysis

  12. Net Benefits • Net Benefits = Total Benefits - Total Costs • Profits = Revenue - Costs

  13. Marginal Benefit (MB) • Change in total benefits arising from a change in the control variable, Q: • Slope (first derivative) of the total benefit curve.

  14. Marginal Cost (MC) • Change in total costs arising from a change in the control variable, Q: • Slope (first derivative) of the total cost curve

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