Question
A firm is considering a project with a 5-year life and an initial cost of $62,500. The appropriate discount rate for this project is 13%.
A firm is considering a project with a 5-year life and an initial cost of $62,500. The appropriate discount rate for this project is 13%. The firm expects to sell 2,300 units a year for the first 3 years. The cash flow per unit is $10. Beyond year 3, there is a 50% chance that sales will fall to 1,200 units a year for both years 4 and 5, and a 50% chance that sales will rise to 2,550 units a year, for both years 4 and 5. The firm will have the option to abandon the project after 3 years (i.e., at t=3) by selling it for $27,500 (after taxes). You will know which state will be realized in years 4 and 5 (should the project be continued) by the time you have to make the potential abandonment decision at t=3. What is the net present value of this project given the sales forecasts and the abandonment option?
Step by Step Solution
There are 3 Steps involved in it
Step: 1
Get Instant Access to Expert-Tailored Solutions
See step-by-step solutions with expert insights and AI powered tools for academic success
Step: 2
Step: 3
Ace Your Homework with AI
Get the answers you need in no time with our AI-driven, step-by-step assistance
Get Started