Question 5 A property developer has purchased a plot of underutilised land on the outskirts of new town for 2.5 million for the purpose of developing a business park. The current value of the proposed business park is estimated to be 12.5 million and the construction costs are expected to be 9.0 million. Assume that the business park can be constructed instantaneously. The property developer intends to sell the business park at the market price as soon as it is constructed. The market price for property prices is known to be volatile. Its annual volatility is 50.0%. Construction costs are known to increase at the annual rate of 5.0%. The risk-free annualised interest rate is 10.0%. The property developer requires to determine the best time to construct the business park, if ever. If the property developer has failed to complete the construction of the business park after 2 years, the plot of land will be compulsorily acquired by the government for the price of 1.5 million. Also, the property developer has to pay an annual maintenance charge of 0.5 million to keep the deferral option alive. Determine the net present value (NPV) for developing the business park assuming that the development takes place today. [Marks: 10%] Construct the future market price evolution for the business spark based on a binomial lattice having a stage length of 1 year and a maturity of 2 years. [Marks: 20%] a. b C. Evaluate the value for immediate development of the business park for each cell of the lattice. [Marks: 20%] Evaluate the deferral option value for developing the business park for each cell of the lattice. d. [Marks: 40%] e. Determine the best strategy for the property developer. [Marks: 10%] Question 5 A property developer has purchased a plot of underutilised land on the outskirts of new town for 2.5 million for the purpose of developing a business park. The current value of the proposed business park is estimated to be 12.5 million and the construction costs are expected to be 9.0 million. Assume that the business park can be constructed instantaneously. The property developer intends to sell the business park at the market price as soon as it is constructed. The market price for property prices is known to be volatile. Its annual volatility is 50.0%. Construction costs are known to increase at the annual rate of 5.0%. The risk-free annualised interest rate is 10.0%. The property developer requires to determine the best time to construct the business park, if ever. If the property developer has failed to complete the construction of the business park after 2 years, the plot of land will be compulsorily acquired by the government for the price of 1.5 million. Also, the property developer has to pay an annual maintenance charge of 0.5 million to keep the deferral option alive. Determine the net present value (NPV) for developing the business park assuming that the development takes place today. [Marks: 10%] Construct the future market price evolution for the business spark based on a binomial lattice having a stage length of 1 year and a maturity of 2 years. [Marks: 20%] a. b C. Evaluate the value for immediate development of the business park for each cell of the lattice. [Marks: 20%] Evaluate the deferral option value for developing the business park for each cell of the lattice. d. [Marks: 40%] e. Determine the best strategy for the property developer. [Marks: 10%]
