rate of return

0.05

discount factor

0.952381

Cash flows and NPV when uncertainty is ignored

Make
Buy

0
-500000

1
200000
10000

2
200000
10000

3
200000
10000

NPV=
NPV=

44649.61
27232.48

The conclusion in this case is that the products should be produced in-house by investing in the mach
Decision tree, expected cash flows and expected NPV when considering demand uncertainty
Decision tree:

Make
Buy

-500000

year1
Demand

year 2
Demand

year 3
Demand

200000

240000
160000

288000
192000
128000

200000
10000

181000
10000

179100
10000

E(NPV)=
E(NPV)=

9361.84
27232.48

When considering demand uncertainty, the conclusion changes! The expected net present value is hig

What is the value of the additional flexibility we have when we buy the products, i.e., when we don't p

by investing in the machine. BUT: Uncertainty is ignored

and uncertainty

d net present value is highest when the machine is NOT bought.

cts, i.e., when we don't produce them in-house? It is the difference between the two expected net present value

the two expected net present values, i.e.:

17870.64