Determining the investment timing option

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Problem:

Investment timing option

Wei Industries is considering a new product that would require an investment of $20 million at t = 0. If the new product is well received, then the project would produce aftertax cash flows of $9.5 million at the end of each of the next 3 years (t = 1, 2, 3), but if the market did not like the product, then the cash flows would be only $3.25 million per year. There is a 55% probability that the market will be good. Wei could delay the project for a year while it conducted a test to determine if demand would be strong or weak. The project's cost and expected annual cash flows are the same whether the project is delayed or not. (In other words, cash inflows will continue for 3 years after the project begins, whether the project is delayed or not.) The project's WACC is 10%.

Required:

Question: What is the value of the project after considering the investment timing option?

a. $1,812,546.96

b. $2,367,817.55

c. $2,750,325.00

d. $3,295,539.92

e. $3,625,093.91

Reference no: EM132053768

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