In Problem 14, suppose you think it is likely that

In Problem 14, suppose you think it is likely that expected sales will be revised upward to 10,800 units if the first year is a success and revised downward to 3,900 units if the first year is not a success.

a. If success and failure are equally likely, what is the NPV of the project? Consider the possibility of abandonment in answering.

b. What is the value of the option to abandon?


Data from problem 14

We are examining a new project. We expect to sell 7,100 units per year at $56 net cash flow apiece for the next 10 years. In other words, the  annual cash flow is projected to be $56 × 7,100 = $397,600. The relevant discount rate is 14 percent, and the initial investment required is $1,800,000.

Discount Rate
Depending upon the context, the discount rate has two different definitions and usages. First, the discount rate refers to the interest rate charged to the commercial banks and other financial institutions for the loans they take from the Federal...