4. MicroLiving Systems owns exclusive rights to a process to grow algae and convert the oil contained in the algae into diesel fuel. The firm has successfully tested the entire process in the laboratory and has developed plans to test the processes on a commercial level. The firm has already searched for bidders on the finished process-and the highest bidder has guaranteed to pay $100,000,000 for the entire process if it can be successfully demonstrated on a commercial scale. There are only three remaining hurdles to demonstrate that the process can be accomplished on a continuous commercial level: (1) separating the algae from the medium, (2) separating the oil from the algae and (3) converting the oil into diesel fuel. Each of the tests will take three months to complete and can be tested at the costs and probabilities of success listed below: Test Costs Probability of Success Isolate Alae $500,000 20% Isolate Oil $1,000,000 25% Convert to Diesel $2,000,000 50% Each test is performed independently of the others, and the probability of each test succeeding is statistically independent of the other tests succeeding. The firm's analyst has estimated that the three tests combined would cost $3,500,000 and that the probability all three tests are cessful can be found by multiplying the three probabilities success together. 3 a. Ignoring the time value of money (assume the discount rate is 0%) compute the NPV of the project as the expected benefit of the project minus the combined costs of conducting the three tests for the project during the next three months. b. Formulate a decision tree that illustrates having the three tests performed sequentially over the next nine months in the order listed (from cheapest to most expensive) with the idea that subsequent tests will only be conducted if the previous test was successful. C. Compute the NPV at each node of the decision tree starting on the right side (the last test period) and moving to the left (continue to use a discount rate of 0%). d. What is the NPV of the project incorporating the sequence of tests and the firm's options to abandon the project (continue to use a discount rate of 0%). e. If the project had a negative NPV, should issues such as environmental benefits and national energy independence be factored into the analysis such that the firm should accept the project? 4. MicroLiving Systems owns exclusive rights to a process to grow algae and convert the oil contained in the algae into diesel fuel. The firm has successfully tested the entire process in the laboratory and has developed plans to test the processes on a commercial level. The firm has already searched for bidders on the finished process-and the highest bidder has guaranteed to pay $100,000,000 for the entire process if it can be successfully demonstrated on a commercial scale. There are only three remaining hurdles to demonstrate that the process can be accomplished on a continuous commercial level: (1) separating the algae from the medium, (2) separating the oil from the algae and (3) converting the oil into diesel fuel. Each of the tests will take three months to complete and can be tested at the costs and probabilities of success listed below: Test Costs Probability of Success Isolate Alae $500,000 20% Isolate Oil $1,000,000 25% Convert to Diesel $2,000,000 50% Each test is performed independently of the others, and the probability of each test succeeding is statistically independent of the other tests succeeding. The firm's analyst has estimated that the three tests combined would cost $3,500,000 and that the probability all three tests are cessful can be found by multiplying the three probabilities success together. 3 a. Ignoring the time value of money (assume the discount rate is 0%) compute the NPV of the project as the expected benefit of the project minus the combined costs of conducting the three tests for the project during the next three months. b. Formulate a decision tree that illustrates having the three tests performed sequentially over the next nine months in the order listed (from cheapest to most expensive) with the idea that subsequent tests will only be conducted if the previous test was successful. C. Compute the NPV at each node of the decision tree starting on the right side (the last test period) and moving to the left (continue to use a discount rate of 0%). d. What is the NPV of the project incorporating the sequence of tests and the firm's options to abandon the project (continue to use a discount rate of 0%). e. If the project had a negative NPV, should issues such as environmental benefits and national energy independence be factored into the analysis such that the firm should accept the project