The sales forecasts and the abandonment option

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Reference no: EM131314942

A firm is considering a project with a 5-year life and an initial cost of $62,500. The appropriate discount rate for this project is 13%. The firm expects to sell 2,300 units a year for the first 3 years. The cash flow per unit is $10. Beyond year 3, there is a 50% chance that sales will fall to 1,200 units a year for both years 4 and 5, and a 50% chance that sales will rise to 2,550 units a year, for both years 4 and 5. The firm will have the option to abandon the project after 3 years (i.e., at t=3) by selling it for $27,500 (after taxes). You will know which state will be realized in years 4 and 5 (should the project be continued) by the time you have to make the potential abandonment decision at t=3. What is the net present value of this project given the sales forecasts and the abandonment option?

Reference no: EM131314942

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