Your firm is considering investing $6.5 million in a factory to build home ethanol systems that will
Question:
Your firm is considering investing $6.5 million in a factory to build home ethanol systems that will allow individuals to create ethanol from grass clippings. There is an 80% chance that the technology will work as planned and expected net cash flows will be $1 million per year and a 20% chance of technical problems that will reduce expected net cash flows to $35,000 per year. Either way, net cash flows would begin a year from today and continue for 20 years. Alternatively, in two years, your firm will know whether the technology will work and thus whether net cash flows will be $1 million or $35,000 per year. Should your firm build now or wait two years if the required return on the project is 10% per year? Draw a decision tree for the project.
Managerial Economics A Problem Solving Approach
ISBN: 978-1133951483
3rd edition
Authors: Luke M. Froeb, Brian T. McCann, Mikhael Shor, Michael R. War