A construction company is planning to build a new high-rise building in a densely populated area. The
Question:
A construction company is planning to build a new high-rise building in a densely populated area. The construction will take two years, and the estimated cost of the project is $100 million. The company estimates that there is a 10% probability of a major earthquake occurring during the construction, which could result in a loss of $50 million. The company is considering two risk management options: (1) purchase earthquake insurance to cover the potential loss in case of an earthquake and (2) hire a seismic engineering firm to design and implement a seismic retrofit to the building. The seismic retrofit will cost $20 million, and it will reduce the probability of earthquake damage to 2%. Assuming that the company is risk-neutral and only interested in maximizing expected value, which option should the company choose? Show all the calculations and assumptions.
Taxation For Decision Makers 2014
ISBN: 9781118654545
6th Edition
Authors: Shirley Dennis Escoffier, Karen Fortin