Homework 6, Problem 2 A local energy provider offers a landowner $180,000 for the exploration rights to natural gas on a site with an option for future development. This option, if exercised, is worth an additional $1,800,000 to the landowner, but this will occur only if natural gas is discovered during the exploration phase. The landowner, believing that the energy company's interest in the site is a good indication that gas is present, is tempted to develop the field herself. To do so, she must contract with local experts in natural gas exploration and development. The initial cost for such a contract is $300,000, which is lost forever if no gas is found on the site. If gas is discovered, however, the landowner expects to earn a net profit of $6,000,000. The landowner estimates the probability of finding gas on this site to be 60%. a. Identify the strategy that maximizes the landowner's expected net earnings from this opportunity b. Perform a sensitivity analysis by repeating the analysis with the following inputs. In each scenario, what is the strategy that maximizes the landowner's expected net earnings? What is the EV for each scenario? Scenario 1 Scenario 2 Scenario 3 Energy Provider offers $1,000,000 for the exploration rights (all other numbers as given in the original problem description) Energy Provider offers $6,000,000 if gas is discovered (all other numbers as given in the original problem description) Landowner pays $1,000,000 for the exploration and development contract (all other numbers as given in the original problem description) Landowner pays $2,000,000 for the exploration and development contract, but this raises the probability of finding gas to 65% (all other numbers as given in the original problem description) Scenario 4 c. What is the minimum amount that the Energy Provider would have to pay the landowner for the exploration rights for the landowner to accept their offer, assuming all other numbers are as given in the original problem description? Hint: Use Excel's Goal Seek. Homework 6, Problem 2 A local energy provider offers a landowner $180,000 for the exploration rights to natural gas on a site with an option for future development. This option, if exercised, is worth an additional $1,800,000 to the landowner, but this will occur only if natural gas is discovered during the exploration phase. The landowner, believing that the energy company's interest in the site is a good indication that gas is present, is tempted to develop the field herself. To do so, she must contract with local experts in natural gas exploration and development. The initial cost for such a contract is $300,000, which is lost forever if no gas is found on the site. If gas is discovered, however, the landowner expects to earn a net profit of $6,000,000. The landowner estimates the probability of finding gas on this site to be 60%. a. Identify the strategy that maximizes the landowner's expected net earnings from this opportunity b. Perform a sensitivity analysis by repeating the analysis with the following inputs. In each scenario, what is the strategy that maximizes the landowner's expected net earnings? What is the EV for each scenario? Scenario 1 Scenario 2 Scenario 3 Energy Provider offers $1,000,000 for the exploration rights (all other numbers as given in the original problem description) Energy Provider offers $6,000,000 if gas is discovered (all other numbers as given in the original problem description) Landowner pays $1,000,000 for the exploration and development contract (all other numbers as given in the original problem description) Landowner pays $2,000,000 for the exploration and development contract, but this raises the probability of finding gas to 65% (all other numbers as given in the original problem description) Scenario 4 c. What is the minimum amount that the Energy Provider would have to pay the landowner for the exploration rights for the landowner to accept their offer, assuming all other numbers are as given in the original problem description? Hint: Use Excel's Goal Seek
