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Consider the following situation faced by a manufacturing company - marketing and sales reports predict that the company s low - price product will either
Consider the following situation faced by a manufacturing company marketing and sales reports predict that the companys lowprice product will either be a blockbuster, a success, or a dud. Assume that the demand forecast for those three scenarios is respectively: thousand units per year with likelihood of thousand units per year with likelihood, or thousand units per year with likelihood.
The cost structure is assumed to be as follows. Capacity expansion incurs a fixed cost of $ million plus a marginal cost of $ per unit of capacity; ie adding production capacity of units per year costs $ million. The process and product technology is commercially viable for four years at that point a new technology would be needed, an issue we will ignore for now The company expects each product to contribute about $ in operating profits. A discount rate is used for these types of investment projects. Assume that the capacity expansion can only be done in increments of units. Round up or down the capacity calculations accordingly What is the manufacturing companys option value of waiting?
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