Unformatted text preview: failure cash flows, plus the cash flow in one year, so: Expected value of project at year 1 = [($2,487,533.69 + $1,400,000)/2] + $420,000 Expected value of project at year 1 = $2,363,766.85 The NPV is the present value of the expected value in one year plus the cost of the equipment, so: NPV = $1,800,000 + ($2,363,766.85)/1.16 NPV = $237,730.04 b. If we couldn t abandon the project, the present value of the future cash flows when the quantity is 4,000 will be: PV future CFs = $60(4,000)(PVIFA16%,9) PV future CFs = $1,105,570.53 The gain from the option to abandon is the abandonment value minus the present value of the cash flows if we cannot abandon the project, so: Gain from option to abandon = $1,400,000 1,105,570.53 Gain from option to abandon = $294,429.47 We need to find the value of the option to abandon times the likelihood of abandonment. So, the value of the option to abandon today is: Option value = (.50)($294,429.47)/1.16 Option value = $126,909.25...
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This note was uploaded on 02/26/2012 for the course MBA IT DOM1 taught by Professor Kviswanathan during the Spring '12 term at Indian Institute of Technology, Chennai.
 Spring '12
 KVISWANATHAN

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