Part A

You work for ConstCo, a medium$-$sized engineering and construction company with annual profits of about $$100$ million. You recently entered as a contractor into a bidding process for a large construction project.

The total $($projected$)$ cost for the project will be about $$500$ million. The project will have a duration of $5$ years, and the following estimated cost will occur throughout the five years $($assume all cash flows occur at the end of a year$)$:

Year $1$: $$200$ million

Year $2$: $$100$ million

Year $3$:$$100$ million

Year $4$:$$50$ million

Year $5$:$$50$ million

The project is auctioned on a lump$-$sum turnkey contract, i$.$e$.$ you as the contractor will receive a fixed payment for the project. Your sales manager is convinced that you can win the bidding process for a bid of about $$650$ million, with $20\%$ being paid at the end of the first year, $10\%$ at the end of years $2-4,$ and the final $50\%$ being paid upon completion. Your finance department suggests using an interest rate of $15\%$ for this project, since it represents considerable risks, like your client defaulting or actual costs being very different from your estimates.

Calculate the Net Present Value for this project.

Part B

Upon successfully bidding for the project $($and obtaining the conditions specified in Part A$),$ your client approaches you with an alternative arrangement. Instead of a lump$-$sum turnkey contract, they are willing to convert the project to a regular Engineering and Construction contract, where you bill the client for your cost $($no profit$).$

To align incentives, the client proposes that to ensure your profitability, they give you a $10\%$ stake in the company that controls the project $($called ManCo$),$ a company that basically oversees construction, manages the facility afterwards and distributes the profits from the project to its owners. You will be awarded this stake during year $5($at the end of the project$).$ ManCo's CFO sees the current value $($as of today$)$ of the company at $$600$ million, so your $10\%$ stake of that as of today would be worth $$60$ million. Your auditors have checked this estimate and consider it a fair value. But your auditors also warn you that there is considerable risk in this value over the next $5$ years $$ at the end of the project, ManCo may be worth as little at $$20$ million or as much as $$1\mathrm{.}2$ billion dollars. Cost variations are a key reason for this risk. They expect that the probability distribution of the value of your stake in ManCo in year $5$ is a uniform one $($i$.$e$.$ equal probabilities$)$ for each of the $60$ possible values from $$2$ million, $$4$ million, $$6$ million, $...$ to $$120$ million.

After some negotiations, your CEO is able to obtain a guarantee from ManCo that you can convert this $10\%$ stake into a $$40$ million lump$-$sum payout, also paid at the end of the project. For simplicity, assume that you would find out very quickly after signing the contract $($i$.$e$.$ within the first year$)$ what the final value of your stake is$,$ so you could immediately switch to the $$40$M fixed amount option if desired.

Using this information, include the cash flow, ePV calculation, Expected Value $($EV$),$ and Correct NPV$.$