Question
Mr Johnson owns a plot of land on which he intends to construct apartment units for sale. The number of apartments to be constructed may
Mr Johnson owns a plot of land on which he intends to construct apartment units for sale. The number of apartments to be constructed may be either 10 or 15. The total construction costs for these alternatives are estimated to be $60m and $102.5m respectively. The current market price for each apartment if built now is $8m. The market price after one year will depend on market conditions then: if the market is buoyant, each apartment will be sold for $9.1m and if it is sluggish, the sale price for each unit will be $7.5m. The yearly rental per apartment unit is $0.7m and the risk-free interest rate is 10% p.a. Draw and analyse a decision tree to enable Mr Johnson decide whether to start construction now or keep the land vacant for one year. Show all workings.
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