HARDWARE’s industrial engineers want to know the value of the option to use the new building longer than expected. The company expects to use the building for 10 years. The expected residual value of the building is approximately C¼5 million. The engineers expect that keeping the building will be worth C¼4 million at that time. The discount rate is 10% for both values.

The spread of probabilities for the PI for keeping the building 10 years from now is summarized in the table below.  

What is the PV of the real option to continue using the building in 10 years’ time?

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Interval Average value Probability 0.00 x 0.44 0.22 0.07 0.44x0.76 0.60 0.24 0.76 x 1.31 1.04 0.38 1.31 < x <2.27 1.79 0.24 2.27x3.91 3.09 0.07 1.00