1. A proposed brewery in the eastern European country of Dubiety will produce a beer- the ‘‘Dubi Dubbel''- for Grolsch N.V. of the Netherlands. A number of other Western European brewers have announced plans to produce and sell beer in the Dubi market. If too many breweries open, beer prices will fall. If some of these investment plans do not materialize, prices are likely to rise. The price of beer is determined exogenously and will be known with certainty in one year. Grolsch management must decide whether to begin production today or in one year. The following facts apply:
Initial investment I0 = D200,000,000; rises by 10% each year Price of beer in one year P1 = either = either D25 or D75 with equal probability
Variable production cost VC = D10 per bottle
Fixed production cost FC = D10,000,000 per year
Expected production Q = 1,000,000 bottles per year forever Discount rate i = 10%
a. Draw a decision tree that depicts Grolsch's investment decision.
b. Calculate the NPV of investing today as if it were a now-or-never alterna- tive.
c. Calculate the NPV (at t = 0) of waiting one year before making a decision.
d. Calculate the NPV of investing today, including all opportunity costs.
e. Should Grolsch invest today or wait one year before making a decision?