In the capital budgeting example from Chapter 6 (see Example 6.1), we maximized NPV for a given… 1 answer below »

In the capital budgeting example from Chapter 6 (see Example 6.1), we maximized NPV for a given budget. Now find a trade-off curve for NPV versus budget. Specifically, minimize the amount invested, with a lower bound constraint on the NPV obtained. What lower bounds should you use? Do you get the same trade-off curve as in Figure 6.4?

Example 6.1

SELECTING INVESTMENTS AT TATHAM

The Tatham Company is considering seven investments. The cash required for each investment and the net present value (NPV) each investment adds to the firm are listed in Table 6.1. The cash available for investment is $15,000. Tatham wants to find the investment policy that maximizes its NPV. The crucial assumption here is that if Tatham wants to take part in any of these investments, it must go all the way. It cannot, for example, go halfway in investment 1 by investing $2500 and realizing an NPV of $8000. In fact, if partial investments were allowed, you wouldn’t need IP; you could use LP.

Objective To use binary IP to find the set of investments that stays within budget and maximizes total NPV.