Reference no: EM133040654

Problem: $3,000 is required at the beginning to build a factory and that the current cost of capital is 10%. The current price is $500. The future prices are uncertain. Marketing forecasts indicate that there is a 50% chance that prices will go up to $700 next period (and remain there forever), however, there is also a 50% chance that prices will go down to $200 next period.

1. What is the NPV for this proposal? (Show all steps)

2. Now consider the same investment proposal, but with the following change: You are given the option to wait a period to figure out whether the price goes up or down. At the end of the first year, you will have perfect prediction on which investment outcome will occur. You then have the option to make the investment. What is the NPV for this investment project? (Show all steps)

3. What is the value of the option to wait? (Show all steps)