Numerical Examples

A firm is considering investing in an oil field and extraction equipment that will last for two years and have no residual value. The firm must make a decision now whether or not to invest. At the beginning of each year, the firm can lock in the price of the oil, which is currently at $ 50 per barrel. Oil is expected to either increase to $ 60 per barrel or decrease to $ 40 per barrel in one year with egual probabilities and will stay ther for two years. Assume costs to extract and sell oil are $ 45 per barrel. The field can yield 100,000 barrels per year. If the field amd equipment cost $ 900,000 and the discount rate is 10%, WOULD YOU ACCEPT THE PROJECT?