A new company wants to manufacture a product. The President of the company has decided that he must choose between one of two designs to use in making the product. The designs have the following cash flows and payoffs, listed below. Assume zero cost of capital.

                        Year 0 cash flow         Year 1 cash flow

Probability                                           unfavorable, 50%                    favorable, 50%

#1                    -$140 million                   $100 million                            $200 million

#2                    -$140 million                   $50 million                              $230 million

a) Which of the two is better, and why?

b) If the company is financed entirely by equity, which design should be chosen?

c) If the company borrows $80 million and raises the other $60 million internally to pay for the design, which design should be selected?