QUESTION 2

Plato Energy is an oil and gas exploration and development company located in Broome,

Western Australia. The company drills well off-shore in hopes of finding significant oil and gas

deposits. The firm is considering two different drilling opportunities that have very different

production potentials. The first is in the Northwest Shelf region off the coast of Western

Australia and the other is in the Gulf of Carpentaria between the Northern Territory and

Queensland. The Northwest Shelf project requires a much larger initial investment but provides

cash flows (if successful) over a much longer period of time than the Gulf of Carpentaria

opportunity. The longer life of the Northwest Shelf project also results in additional

expenditures in year 3 of the project to enhance production throughout the project's 10-year

expected life. The expected cash flows for the two projects are as follows: