The federal government recently announced that the Department of Transportation (DOT) is considering funding for a new
Question:
The federal government recently announced that the Department of Transportation (DOT) is considering funding for a new bridge over the Saginaw River in central Michigan near Michigan's Great Lakes Bay Region. If constructed, the new bridge is predicted to provide tens of millions of dollars in costs savings associated with shorter travel time and safety benefits in that region. The Michigan Transportation Authority (MTA) is considering two locations along the Saginaw River to locate the bridge. The locations are approximately 28 miles apart. CROSSING 1 is closer to Lake Huron and CROSSING 2 is further South near Bay City. In anticipation of the chosen location becoming a significant passage point for tens of thousands of vehicles including trucks, an enterprising invetment team is considering purchasing land in advance of the location announcement hopes of buying the land now (and eventually developing the area with hotels, restaurants, shops, etc) to accommodate the potential influx of transient visitors. However, it is possible that the DOT will decide not to fund any bridge. If the investment team buys the land in one of the locations and the MTA does not choose that option, the land will lose value and they will not develop the land and sell it immediately. The investment group has three choices:
- CHOICE 1: Purchase land near CROSSING 1
- CHOICE 2: Purchase land near CROSSING 2
- CHOICE 3: Do not purchase any land
The following financial information is available (in millions of dollars):
MTA SELECTS CROSSING 1 | MTA SELECTS CROSSING 2 | |
Current Purchase Price (pre-announcement) | 14 | 22 |
Value of land if MTA selects that crossing location | 35 | 48 |
Value of land (future selling price) if DOT rejects entire bridge project | 9 | 12 |
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- Need a payoff table for this scenario.
- What choice should the investment team make if they are: (1) conservative (2) optimistic
- If the investment team determines that there is a 47% chance that MTA will select CROSSING 1, a 38% chance for CROSSING 2, and a 15% chance that DOT will not build the bridge. Which decision should they choose to maximize total net profit?
- Would it be a good decision for the investment team to place a $8M non-refundable deposit on the land in order to delay the decision until after DOT and MTA make their announcement of which (if any) crossing will be chosen for the new bridge? HINT: use Expected Value of Perfect Information (EVPI).
Advanced Accounting
ISBN: 978-1934319307
2nd edition
Authors: Susan S. Hamlen, Ronald J. Huefner, James A. Largay III