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Investment Timing Option: Decision - Tree Analysis The Karns Oil Company is deciding whether to drill for oil on a tract of land that the
Investment Timing Option: DecisionTree Analysis
The Karns Oil Company is deciding whether to drill for oil on a tract of land that the company owns. The company estimates the project would cost $ million today. Karns estimates that, once drilled, the oil will generate positive net cash flows of $ million a year at the end of each of the next years. Although the company is fairly confident about its cash flow forecast, in years it will have more information about the local geology and about the price of oil. Karns estimates that if it waits years then the project would cost $ million. Moreover, if it waits years, then there is a chance that the net cash flows would be $ million a year for years and a chance that they would be $ million a year for years. Assume all cash flows are discounted at
If the company chooses to drill today, what is the project's net present value? Do not round intermediate calculations. Enter your answer in millions. For example, an answer of $ million should be entered as not Round your answer to two decimal places.
$
million
Using decisiontree analysis, does it make sense to wait years before deciding whether to drill?
No it makes sense to drill today.
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