Project M&M has an initial investment $200,000, at t = 0. Project M&M's cash flows (CFs) depend on the customer acceptance of the product. There is a 60% probability that the product will be wildly successful and generates CFs of $125,000 every year during three years. There is a 40% chance that the CFs generated over the same period are only $25,000. Assume that the WACC is 12%. Therefore the project will generate an expected NPV = $ 4,155.66. Assume that the company has the option to abandon the project after one year, if the first year cash flow is $25,000. The option to abandon also allows to the company to recoup $35,000 of the initial investment at the end of the first year.

What is the expected NPV with the option to abandon the project?

What is the value of the option?

Answer rating: 100% (QA)

To calculate the expected NPV with the option to abandon the project and the value of the option we can use the concept of real options and decision t... View the full answer