7.

a. What is the economic trade-off between investing immediately and waiting? [1.5 marks]

b. You own a copper mine which currently generates revenues of $3 million per year. Next year, based upon copper demand, its revenues will either increase by 30% or decrease by 20%, with equal probability, and stay at that level forever. The mine costs $2.1 million per year to operate. Assume that your cost of capital is 11% and you are able to sell the mine at any time for $5.5 million.

Calculate:

(i) the value of the mine given the embedded option to sell the mine. [2.5 marks]

(ii) the value of the embedded option to sell the mine. [1 mark]