"Corporate Finance": cannibalization

來源: 正保會計(jì)網(wǎng)校編輯：小鞠橘桔 2021/03/15 16:29:47　字體：大小

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Questions 1:

When a new project reduces the cash flows of an existing project of the same firm, it is best described as a(n):

A、 sunk cost.

B、 opportunity cost.

C 、externality.

Questions 2:

A company has 100 million shares outstanding. The share price of a company’s stock is ￡15 just prior to announcing a ￡100 million expansionary investment in a new plant, and the company estimates that the present value of future aftertax cash flows will be ￡150 million. Analysts, however, estimate that the new plant’s profitability will be lower than the company’s expectations. The company’s stock price will most likely:

A、 drop below ￡15 per share due to the cannibalization of revenue from the new plant.

B、 increase by less than ￡0.50 per share.

C、 increase by the new plant’s net present value per share.

View answer resolution

【Answer to question 1】C

【analysis】

C is correct. A new project reducing the cash flows of an existing project is an externality called cannibalization.

A is incorrect because it is an example of cannibalization and not a sunk cost.

B is incorrect because it is an example of cannibalization and not an opportunity cost.

【Answer to question 2】B

【analysis】

B is correct. The value of a company is the value of its existing investments plus the net present values of all of its future investments. The NPV of this new plant is ￡150 million – ￡100 million = ￡50 million. The price per share should increase by NPV per share or ￡50 million/100 million shares = ￡0.50 per share. As the new plant’s profitability is less than expectations, the NPV per share (and hence the increase in the stock price) should therefore be slightly below ￡0.50 per share.

A is incorrect. It is only new plant’s profitability that is below the average not the overall. The company value should not fall below ￡15 per share, all things being equal.

C is incorrect. See the above calculation.

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