Pulorough Co produces household electrical goods for its home country market and for markets in neighbouring countries. Pulorough Co is planning to make a major investment in new production facilities in order to produce an upgraded model of its cooker. Pulorough Co's finance director has assigned probabilities to a number of possible sales volumes of this new model, based on Pulorough Co's previous experience of launching product upgrades. He has calculated annual expected values for sales for the four-year time period over which the investment will be assessed.

However, after a number of years of strong economic growth, Pulorough Co's home country and its neighbours appear likely to enter a period of recession, meaning that consumers may be less wiling to spend money on new kitchen goods.

The initial investment cost will be $39m. The finance director has assumed that there will be zero realisable value at the end of the four years. Working capital can be ignored.

The expected volumes of sales are :

Year       1            2             3           4

          60,000  150,000  140,000  80,000

Pulorough Co pays corporation tax of 25% per year one year in arrears.No tax-allowable depreciation is available on the investment expenditure.

Pulorough Co currently uses 11% as the after-tax discount rate to appraise investments like this.

One of the other directors has commented that he thinks the level of contribution that the finance director has assumed is too high. He also wondered that, with the economic uncertainty, the cost of capital should be higher. The finance director has said that he will prepare sensitivity calculations, showing in relative terms the level of change in contribution and discount rate that would produce a nil net present value. He will assume that the contribution will be lower by the same percentage each year.

Another director has stated that she has heard that probability analysis can be helpful indecision-making, and wonders if this will be the same as the sensitivity analysis that the finance director is going to prepare.

Discuss the difference between risk and uncertainty in the context of investment decisions.(3 marks)

Calculate the nominal net present value of the investment project and comment on its financial acceptability;(5 marks)

Calculate the sensitivity of the project's net present value to a change in the level of contribution per unit; and(3 marks)

Calculate the sensitivity of the project's net present value to a change in the discount rate.(3 marks)

Compare and contrast sensitivity analysis and probability analysis as methods of assisting investment decisions when there is more than one possible outcome.(6 marks)